GLOBAL PAIN AND ASIAN EQUITIES
The multiple shocks on Wall Street have sent Asia into the most traumatic bear market since the collapse of the Silicon Valley tech bubble in 2000

By Matein Khalid

The Wall Street credit crunch has gone global with a vengeance, leading to a cascade of bank failures, stock market crashes and frozen money markets all over the world. Not even emergency rate cuts by the Federal Reserve, the Bank of England, the ECB, and the Swiss National Bank have stabilised the financial markets. The panic in the stock market and repatriation of funds by American institutional investors has led to a stronger dollar against Asian currencies, even hard money proxies like the Singapore dollar. The fall in the commodities prices has proved catastrophic for markets such as Indonesia, Malaysia, Australia and New Zealand.

The shocking 25 per cent plunge in the Nikkei Dow in a single week is a deflation SOS to the world. Asian markets cannot and will not ‘decouple” from Wall Street because the globalisation of finance makes such “decoupling” impossible, as we learnt in the Gulf markets. Not even the US treasury bailout plan or the Ben Bernanke Fed’s rate cuts have unfrozen the money markets, as counterparty risk has now taken on ominous dimensions. Not even a $65 plunge in oil prices boosted traditional Asian oil importers such as Japan, South Korea, Taiwan and India. The multiple shocks on Wall Street have sent Asia into the most traumatic bear market since the collapse of the Silicon Valley tech bubble in 2000. However, Asia is also the growth frontier of the world economy.

No safe havens
It used to be axiomatic to overweight Singapore during bear markets in global equities. But the Straits Times Index (STI) has not exactly proven a safe haven in the meltdown of 2008. The STI has lost half its value from its 3800 peak. Meanwhile, the Singapore dollar has plunged from 1.35 to 1.47 against the greenback. Singapore’s fall from grace can be understood, in retrospect. One, GDP growth has contracted twice in succession, meaning the Singapore economy has gone into a recession. As a small, open economy with the highest export GDP ratio in Pacific Rim, Singapore is vulnerable to any contraction in international trade.

As the Baltic Dry Freight index plunges from 11,000 to 3,000 demonstrates, the global economy has flashed a recession SOS that is impossible to ignore. Two, the U-turn in the Singapore dollar proves the focus of the FX traders is now growth risk, not inflation risk. The Singapore dollar was a barometer for bull markets in Southeast Asian equities is no longer one. Three, shipping, aviation, oil and gas and commodities are significant components of the Asian stock indices. It is now evident that the commodities bubble was doomed, hedge fund liquidations would send financial markets in a panic and an economic slowdown hits the emerging markets.

The range for the Straits Times Index for the next year, in my estimate, will be between 1800 and 2400. Singapore is cheap at 12 times earnings, far below its 16 times valuation range in the past decade. However, Singapore is still vulnerable to earnings downgrades and an ugly, protracted recession. The Singapore dollar can also fall to 1.50- 1.52 against the USD. It is best only to buy the Amex Singapore ETF (symbol EWS) only when the Straits Times falls to 1800 and earnings season is over. As hedge funds panic and sell, markets go irrational. After all, as Lord Keynes so rightly observed, markets can stay irrational a lot longer than investors can stay insolvent.

The meltdown spares none
Indonesian shares, historically the high beta market in Southeast Asia, have crashed and the Jakarta Stock Exchange shut down amid fears for the stability of the settlements system and rumours about the listed companies in the Bahrie trading conglomerates. Since it is not uncommon in the emerging markets for conglomerate owners to pledge shares to their bankers for loans, a selling panic can easily become a liquidation panic as banks dump collateral in a falling market. It is ironic that Jakarta shares and the Indonesian rupiah once again relived the nightmares of 1998 (a year of living dangerously for Indonesia, the year Suharto’s military seized power and slaughtered 500,000 alleged communists). Indonesia is the success story of Southeast Asia since President Suharto was elected President in 2004 with a current account surplus, resurrection of the banking system, peace in Aceh and fiscal discipline. However, with crude oil prices in free fall, I do not recommend buying Indonesian shares.

Malaysian politics have been the biggest threat to the Kuala Lumpur stock market ever since the ruling Barisan National Coalition lost five by states (including economically significant Serak and Selangor) to the opposition, led by the charismatic former finance minister Anwar Ibrahim. Of course, prime minister Abdullah Badawi’s decision to hand over power to deputy PM Najib Razak does not remove political uncertainty as UMMO faces its own internal fissures, as does the opposition. In any case, plunges in the international prices of crude oil, natural gas, tin, rubber and palm oil is extremely bearish for Malaysian equities. It is pointless to bottom fish in the KLCI as long as commodities prices are in free fall. However, the fall in the Malaysian ringgit due to the global commodities bear market benefits specific domestic shares. For instance, YTL Power’s UK Wessex subsidiary contributes the majority of earnings and Malaysian Oil Company Wah Seong devices one fourth of its concessions from outside Malaysia. It is also likely that we could see earnings downgrades in Malaysia. While Kuala Lumpur is not expensive at 12 times earnings, there are three major macro forces (politics, falling commodities prices, and earnings downgrades) that could well take the index down to 700, an incredible 50 per cent below its 1400 peak last December.

Shocks on the Indian subcontinent
It is iconic that not even the fall of crude oil below $80 and the Reserve Bank of India’s cash reserve ratio cut did nothing to arrest the downward spiral in the BSE Sensex, which has fallen to 10,500. India was the darling of foreign fund managers during the bull market and the exit of FII’s from the Dalal Street has not being compensated by local buying. Meanwhile, the closure of offshore finance markets means capex (capital expenditure) has slumped and a crash in the over inflated property market is inevitable. India’s excessive twin budget/trade deficits mean risk aversion and political uncertainty hits the Indian rupee even when monetary policy is tight. A general election in 2009 is another source of political risk.

The lessons of 2008 for investors in India are profound. One, valuations matter. Indian shares traded at ridiculously high P/E ratios in 2007, above 20. High valuation markets get slammed when investor sentiment turns bearish. Two, land and share prices cannot rise when the Reserve Bank tightens credit, no matter how compelling the growth story. Three, Indian stock markets cannot rise when foreign hot money flees the Sensex. The exit of $10bn in FII funds led the Sensex to lose 10,000 points since the index peaked at 21,000 in January 2008. India now faces an industrial and consumer recession. I would not be surprised if the Sensex drops to 8000 in 2009.

The author is a renowned investment banker based in Dubai
 

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