Mark Matthews, Bank Julius Baer & Co sees massive repercussions from Bank of Japan (BoJ) radical move to overhaul of its policymaking.
"Fund managers have become accustomed over the last decade thinking that emerging markets (EM) are the future, but now some EM's might see huge outflows," Matthews says.
According to him, Brazil, Russia, India and China (BRIC) are not in the category of EM's where the local investors are in a good mood.
Matthews feels that developed markets (DM) will go up and EMs might move down in the near term. He sees worries on global fund reallocation to Japan and chances of money sifting from EM's to Japan.
Below is the verbatim transcript of his interview to CNBC-TV18
Q: What have you made of the recent developments in Japan and what implications it could have for liquidity in the global equity space?
A: It is the question of the day and probably the week and the year. What happened yesterday in Japan is as big as the Berlin Wall coming down in 1989. For a central bank of a country this size to do such an about phase and become even more simulative than the Fed as a percent of GDP has massive repercussions for not only that stock market, but for fund flows globally.
To answer your questions it means that money will reallocate from emerging markets to Japan. None of the emerging markets with minor expectations have very compelling stories right now. However, fund managers have become accustomed over the last decade thinking that emerging markets are the future.
So, this weakness in emerging markets and commodities and strength in developed markets, but particularly Japan and at States secondarily will continue.
Q: How abundant was the liquidity coming in from Japan into some of these emerging markets just to understand how potentially large the impact could be if there is repatriation of funds back into that country?
A: I do not think we need to worry so much about the Japanese themselves taking their money out of other countries. We need to worry more about global funds reallocating to Japan. As they have been underweight Japan for the longest time and just rebalancing back to neutral would cause significant outflows from emerging markets.
However, going to overweight which they should in my opinion would cause even more outflows. Some of these emerging markets have retail investors and local institutions which are large enough to fill that void. Indeed in many emerging markets the economy is doing very well and interest rates are very low by historic standards.
Unfortunately Brazil, Russia, India and China (BRIC) are not in that category of emerging markets where the local investors are in a good mood. So, I hesitate to say that they are going to do anything spectacular over the next six months.
Q: Ex of Japan there seems to be a pretty sharp reaction in the Asian region this morning in markets like the Hang Seng, the KOSPI. Would you foresee more near-term damage or downside for some of these Asian markets?
A: I would, because there really was not a very compelling story in China in the first place. We had all been hoping that their economy would start to reaccelerate, but it is clear that it is not. In their latest data, it is clear as well that the new leaders want to reform which is a wonderful thing.
I do not think they want to reform because they hate corruption, instead because they are worried about the sustainability of the Communist Party’s grip on power. There is such dissatisfaction now towards corruption and the gap between the rich and the poor that they realize the need to balance things out.
That is a very good thing for the long-term, but at least in the next two years it means less economic and earnings growth in that country. So, if one adds the fact that China does not particularly look compelling to the fact that Japan does then, yes I can see more fund flows away from China towards Japan.
Q: Do you see a situation where this year the outperformance of the US and Japan continues and that they do well and other markets do not do as well or you could see a starker bipolarity where those two markets actually go up while the others go down?
A: It is possible that they could go up while the others go down and it is certainly unusual. As usually in the global bull market the emerging market asset class outperforms, but not always.
In the mid-90s in the lead up to the Asian crisis emerging markets were not the place to be and I am not foreseeing an Asian crisis. However, I also think that Japan is the beginning of a multi-year bull market, the US is well into its bull market, but I think it does continue and I struggle to find very compelling stories in the major emerging markets.
So, putting all that together, it’s true that the developed markets can go up and the big emerging markets can go down.
Q: What is the fear though that eventually the US market which has been on a bit of a tear actually tops out later and starts following the emerging markets on the way down as if they play catch up maybe with a six month kind of a lag?
A: Nobody can predict the future, but all the data suggests that the housing market recovery in the US is intact and will be sustained and that unemployment is on the downtrend. When I put those two together it means the US consumer will continue to consume more and the consumer is the driver of the US economy.
So, I think that it is extremely unlikely that what you asked will occur and the US will continue to be a good place to be.
Q: How carefully are you watching the currency space? There is a lot of talk this morning about the Yen, what it could depreciate to and the potential impact of that.
A: The currencies are exceptionally difficult to forecast. Everything in life is hard to forecast, but the currencies have a massive political overlay. Purely in economic terms the Yen should not really weaken much more than it is now.
However, the politics are involved and so therefore the Yen will significantly weaken based on the new Bank of Japan (BoJ). That is clearly part of this Abe administration even though it is a supposed to be a standalone entity.
Our forecast for the Yen is 100, but I have noticed this morning Credit Suisse changed their 12-month forecast to 120 versus the dollar. I do not think it is inconceivable that it could go there given the amount of stimulus that was brought to the table yesterday.