Emerging markets are booming again – but can the good times last?
Jul 31, 2009
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If you take a close look at the charts of 40 stockmarkets around the world, "a very clear story" emerges, says Robin Griffiths, Cazenove's technical strategist. The secular, or long-term, trend in the developed world is down, with most markets around 50% below 2000 levels. But emerging markets are typically up by around 400% on 2000 when global stocks last bottomed. So they are in secular bull markets.
Emerging markets are doing particularly well at present. Risk appetite has returned, with the improving outlook in China the key catalyst, says David Oakley in the FT. Developing markets began to find their feet late last year after China's stimulus package was launched. This year alone the MSCI emerging markets index is up by 50%, while America's S&P 500 index has climbed a mere 8%. India and Russia have gained a respective 55% and 60%. China leads the pack, with the domestic market – the Shanghai Composite index – 89% ahead this year and up over 100% since October. Meanwhile, the H-shares index of mainland companies listed in Hong Kong has advanced by 50%.
Signs of speculative fervour
But the worry now is that the domestic market – driven by retail investors as it is largely off limits to foreigners – is heading into bubble territory again. It rose fivefold in 2006/2007 before slumping by 65% last year. Signs of speculative fervour abound. Daily trading volume in Shanghai and Shenzen is close to the peak levels of 2007. Individual investors opened 484,800 accounts in China last week, the most since January 2008 and five times January 2009 levels. And, following a ten-month moratorium, this week's first initial public offering in Shanghai, Sichuan Expressway, quadrupled on its first day of trading.
The Shanghai index is already on 37 times earnings. That's well off the 50 it hit in November 2007, but the fundamentals are worse this time, as Ren Chengde of Galaxy Securities points out. During the last bubble economic and earnings growth reached a peak. This year, though, the economy has only just begun to improve and mainland firms' profits are still expected to finish the year 10% down. So we're "already in a bubble", says Qian Qimin of Shenyin & Wanguo. Clearly, some of the liquidity created by the 35% year-on-year surge in bank lending that is fuelling the economy is finding its way into asset markets.
China remains tied to the West
Meanwhile, the lending surge mandated by the government poses a potential threat to the banking system. The lending flood "will lead to a huge pile of bad debt", says Vitaliy Katsenelson in Foreign Policy. "Forced lending is bad lending… don't confuse fast growth with sustainable growth". Moreover, the stimulus will have to be withdrawn at some point as worries over inflation mount, says Saxo Bank. The broader problem for Chinese and emerging market investors, as Griffiths points out, is that China remains "an export machine". As such it is linked to "Western economies and their problems, and especially the US economy and its problems". Decoupling is still some way off, which means the market is "ahead of events".
With Western demand likely to be subdued for years, it's hard to see exports underpinning strong growth in China once the stimulus ends. And mounting evidence that the global recovery will be lacklustre is a threat to all emerging markets. "China is not out of the woods yet," says Nigel Rendell of RBC Capital Markets, "and neither is the rest of the emerging world."
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