Global Investing

Weekly Radar: Central banks try to regain some control

Central banks may be regaining some two-way control over global markets that had started to behave like a one-way bet. After flagging some unease earlier this month that frothy markets were assuming endless QE, the Fed and others look to be responding with at least some frank reality checks even if little new in the substance of their message. In truth, there may be no real change in the likely timing of QE’s end, or even the beginning of its end, but the size of the stock and bond market pullbacks on Wednesday and Thursday shows how sensitive they now are to the ebb and flow of central bank guidance on that score.  Although the 7% drop in Japan’s stock market looks alarming – Fed chief Bernanke actually played it fairly straight, signalling no imminent change and putting any possible wind down over the “next few meetings” still heavily conditional on a much lower jobless rate and higher inflation rate. The control he gains from here is an ability to nuance that message either way if either the data disappoints or markets get out of hand.

The central banks are clearly treading a fine line between getting traction in the real economy and not blowing new financial bubbles. The decider may be inflation and on that score central banks have a lot of leeway right now – global inflation is still evaporating and, as measured by JPM, fell in April to just 2.0% – its lowest in 3-1/2 years.  That said, CPI was also very well behaved in the run-up to 2007 credit crisis – it was asset prices and not consumer inflation that caused the problem. So – expect to hear plenty more cat-and-mouse on this from the central banks over the coming weeks/months.

For investors, periodic pullbacks from here are justified and likely sensible. But it’s still hard to argue against a wholesale change of behaviour – which is merely to assume central banks will prevent further growth shocks but will take some time to transform persistently sluggish growth into anything like a sustained inflation-fueling expansion . As a result, funds will likely steer clear of “safe” havens of cash, gold, Swiss franc and yen despite this bounce and continue their migration to income everywhere, with a bias to relative growth stories within that and an exchange rate tilt according to the likely sequencing of QE exit– all of which points to the U.S. dollar if not its stock markets. And for many that may just mean repariation or staying at home –the US is still the homebase for two thirds of the world’s institutional funds, or some $55 trillion of savings.

And the dollar move is just starting to play out big in emerging markets, where emerging market currencies are on the back foot everywhere from Turkey to South Africa, South Korea and others. The reaction so far as been to lift local stock markets on potential exporter relief but a big question moving ahead is to what extent persistent exchange rate weakness will start to deter or even reverse foreign investment flows.

Next week is a busy if mixed bag – a heavy G7 data slate, with Japan a focus; rate decisions in Brazil, Thailand, Hungary and Canada, US Treasury and JGB debt auctions, EU flash inflation and jobless reports, and China’s Premier visiting Germany.

Turkey: investment grade, peace and FDI?

Turkey’s elevation to investment grade last week may or may not be a game changer for its stock and bond markets, but the country is really hoping for a boost to FDI – bricks-and-mortar foreign direct investment  into manufacturing or power generation. Its peace process with Kurdish separatists should help.

Speaking last week at Mitsubishi-UFJ’s annual Turkey conference, Finance Minister Mehmet Simsek cited data showing an average 2 percentage-point pick-up in FDI in the two years immediately after a country moves into investment grade.

Sticky, job-creating and not prone to sudden flight, FDI is the kind of investment that Turkey, with a massive balance of payments deficit, desperately needs. Turkey does worse than most other countries on the FDI front.  Its combined deficit of the current account and net FDI is around 5 percent, Commerzbank analysts note –  wider than most emerging market peers.

Weekly Radar: Draghi returns to London

ECB chief Mario Draghi returns to London next week almost 10 months on from his seminal “whatever it takes” speech to the global financial community in The City  – a speech that not only drew a line under the euro financial crisis by flagging the ECB’s sovereign debt backstop OMT but one that framed the determination of the G4 central banks at large to reflate their economies via extraordinary monetary easing. Since then we’ve seen the Fed effectively commit to buying an addition trillion dollars of bonds this year to get the U.S. jobless rate down toward 6.5%, followed by the ‘shock-and-awe’ tactics of the new Japanese government and Bank of Japan to end decades.

And as Draghi returns 10 months on, there’s little doubt that he and his U.S. and Japanese peers have succeeded in convincing financial investors of central bank doggedness at least. Don’t fight the Fed and all that – or more pertinently, Don’t fight the Fed/BoJ/ECB/BoE/SNB etc… G4 stock markets are surging ever higher through the Spring of 2013 even as global economic data bumbles along disappointingly through its by now annual ‘soft patch’.  Looking at the number tallies, total returns for Spanish and Greek equities and euro zone bank stocks are up between 40 and 50% since Draghi’s showstopper last July . Italian, French and German equities and Spanish and Irish 10-year government bonds have all returned about 30% or more. And you can add 7% on to all that if you happened to be a Boston-based investor due to a windfall from the net jump in the euro/dollar exchange rate. What’s more all of those have outperformed the 25% gains in Wall St’s S&P 500 since then, even though the latter is powering to uncharted record highs. And of course all pale in comparison with the eye-popping 75% rise in Japan’s Nikkei 225 in just six months!! Gold, metals and oil are all net losers and this is significant in a money-printing story where no one seems to see higher inflation anymore.

But with both Fed and BoJ pushes getting some traction on underlying growth and the euro zone economy registering it’s 6th straight quarter of contraction in the first three months of 2013, maybe Draghi’s big task now is to convince people the ECB will do whatever it takes to support the 17-nation economy too and not only the single currency per se. Last year’s pledge may have been a necessary start to stabilise things but it has not yet been sufficient to solve the economic problems bequethed by the credit crisis.

Japan’s big-money investors still sitting tight

More on the subject of Japanese overseas investment.

As we said here and here, Japanese cash outflows to world markets have so far been limited to a trickle, almost all from retail mom-and-pop investors who like higher yields and are estimated to have 1500 trillion yen ($15.40 trillion) in savings. As for Japan’s huge institutional investors — the $730 billion mutual fund industry and $3.4 trillion life insurance sectors — they are sitting tight.

If some are to be believed, the hype over outflows is misguided. Morgan Stanley for one reckons Japanese insurers’ foreign bond buying may rise by just 2-3 percent in the next two years, amounting to $60-100 billion. Pension funds are even less likely to re-balance their portfolios given large cash flow needs, the bank said.

But a Reuters survey last week revealed several insurance companies are indeed considering boosting unhedged foreign bond holdings.  Insurers currently hold almost half their assets in Japanese government bonds and risk being crowded out of the JGB market as the central bank ramps up purchases.  A recent survey by Barclays also showed Japanese investors keen on overseas debt.

Weekly Radar: Question mark for the ‘austerians’

One of the more startling moves of the week was the fresh rally in euro government debt – with 10-year Italian and Spanish borrowing rates falling to their lowest since late 2010 when the euro crisis was just erupting and 2-year Italian yields even falling to 1999 euro launch levels. The trigger? There’s been a slow build up for weeks on the prospect of new Japanese investor flows  seeking liquid overseas government bonds  – but it was signs of a sharp slowdown in Germany’s economy that seems to have had a perversely positive effect on the region’s asset markets as a whole. The logic is that German objections to another ECB rate cut will ebb, as will its refusal to ease up on front-loaded fiscal austerity across Europe. If its own economic engine is now suffering along with the rest, significantly just five months ahead of German Federal elections, then a tilt toward growth in the regional policy mix may not seem so bad for Berlin after all. And if euro economies are more in synch, albeit in recession rather than growth, then perhaps it will lead to a more effective regional policy response.

All that plays into the intensifying “growth vs austerity” debate, which had already shifted at the Washington IMF meetings last week and was sharpened this week by by EU Commission chief Barroso’s claim that the high watermark of EU’s austerity push had passed. On top of the Reinhart/Rogoff research farrago, it’s been a bad couple of weeks for the “austerians”, with only a UK Q1 GDP bounceback of any support for case of ever deeper fiscal cuts,  and investors smell a change of tack. Their reaction? Not only have euro government borrowing costs fallen  further, but euro equities too rallied for 4 straight days through Wednesday. Those arguing that investors would run screaming at the sight of a more growth-tilted policy mix in Europe may have some explaining to do.

Next week is back on monetary policy watch however. The ECB takes centre stage amid rate cut talks hopes for help for credit-starved SMEs. The FOMC meets stateside aswell just ahead of the critical US April employment report.

Why Abenomics is leading to a squid shortage in Japan

“Abenomics” — Prime Minister Shinzo Abe’s aggressive reflationary fiscal and monetary policy — is widely praised for injecting optimism into the world’s third largest economy and making Tokyo stocks the best performing equity market in the world this year.

However, in Japan, something odd is happening as a result of Abenomics — a big shortage of squid.

Japan Squid Fisheries Association (JAFRA) decided to halt all fishing operations this Friday and Saturday because a weaker yen is pushing petrol prices higher, to the extent that going out to the sea will bring a guaranteed loss. The yen has lost more than 13 percent against the dollar since the start of the year.

Weekly Radar: Second-guessing Japan flows as global growth slows

Figuring out what was driving pretty violent market moves this week was trickier than usual – and that says something about how much the herd has scattered this year, with ‘risk on-risk off’ correlations having weakened sharply. Just as everyone puzzled over a potential “wall of money” from Japan after the BOJ’s aggressive reflation efforts, the bottom seemed to fall out of gold, energy and broader commodity markets – dragging both equity markets and, unusually, peripheral euro zone bond yields lower in the process.  As dangerous as it may be to seek an overriding narrative these days, you could possibly tie all up these moves under the BOJ banner – something along these lines: the threat of a further yen losses pushes an already pumped-up US dollar ever higher across the board and undermines dollar-denominated  commodities, which have already been hampered by what looks like yet another lull in global demand. Developed market equities, whose Q1 surge had been reined in by several weeks of disappointing economic data and an iffy start to the Q1 earnings season, were then hit further by a lunge in heavy cap mining and energy stocks. The commodities hit may also help explain the persistent underperformance of emerging markets this year. What’s more the lift to Italian and Spanish government bonds comes partly from an assumption any Japanese money exit will seek U.S. and European government bonds and relatively higher-yielding euro government paper may be favoured by some over the paltry returns in the core ‘safe havens’ of Treasuries or bunds. The confidence to reach for yield has clearly risen over the past six months as wider systemic fears have receded – something underlined in dramatic style this week by a huge lunge in gold,  now lost almost 20 percent in the year to date.

While all that logic may be plausible, there have been dozens of other reasons floating around for the seemingly erratic twists and turns of the week.

The only truth so far is that everyone is still just guessing about the likely extent of a Japanese outflow and confidence about global growth has received another setback.

Amid yen weakness, some Asian winners

Asian equity markets tend to be casualties of weak yen. That has generally been the case this time too, especially for South Korea.

Data from our cousins at Lipper offers some evidence to ponder, with net outflows from Korean equity funds at close to $700 million in the first three months of the year. That’s the equivalent of about 4 percent of the total assets held by those funds. The picture was more stark for Taiwan funds, for whom a similar net outflow equated to almost 10 percent of total AuM. Look more broadly though and the picture blurs; Asia ex-Japan equity funds have seen net inflows of more than $3 billion in the first three months of the year, according to Lipper data.

Analysts polled by Reuters see more drops ahead for the yen which they predict will trade around 102 per dollar by year-end (it was at 77.4 last September). Some banks such as Societe Generale expect a 110 exchange rate and therefore recommend being short on Chinese, Korean and Taiwanese equities.

Cheaper oil and gold: a game changer for India?

Someone’s loss is someone’s gain and as Russian and South African markets reel from the recent oil and gold price rout, investors are getting ready to move more cash into commodity importer India.

Stubbornly high inflation and a big current account deficit are India’s twin headaches. Lower oil and gold prices will help with both. India’s headline inflation index is likely to head lower, potentially opening room for more interest rate cuts.  That in turn could reduce gold demand from Indians who have stepped up purchases of the yellow metal in recent years as a hedge against inflation.

If prices stay at current levels, India’s current account gap could narrow by almost one percent of GDP in this fiscal year, analysts at Barclays reckon.  They calculate that $100 oil and gold at $1,400 per ounce would cut India’s net import bill by around $20 billion, bringing the deficit to around 3.2 percent of GDP.

There’s cash in that trash

There’s cash in that trash.

Analysts at Bank of America/Merrill Lynch are expounding opportunities to profit from the burgeoning waste disposal industry, which it estimates at $1 trillion at present but says could double within the next decade. They have compiled a list of more than 80 companies which may benefit most from the push for recycling waste, generating energy from biomass and building facilities to process or reduce waste. It’s an industry that is likely to grow exponentially as incomes rise, especially in emerging economies, BofA/ML says in a note:

We believe that the global dynamics of waste volumes mean that waste management offers numerous opportunities for those with exposure to the value chain. We see opportunities across waste management, industrial treatment, waste-to-energy, wastewater & sewage,…recycling, and sustainable packaging among other areas.

There is no denying there is a problem. Around 11.2 billion tonnes of solid waste are produced by the world’s six billion people every day and 70 percent of this goes to landfill. In some emerging economies, over 90 percent is landfilled.  And the waste mountain is growing. By 2050, the earth’s population will reach 9 billion, while global per capita GDP is projected to quadruple. So waste production will double by 2025 and again from 2025 to 2050, United Nations agencies estimate.