The buzz around Bernanke's announcement that Fed will start to withdraw stimulus by end this year is slowly settling down. But selling in emerging markets is likely to continue for longer, because international money is being pulled back from periphery where they are exposed to risk, says Mark Konyn, CEO, CCAM.
"EMs will be more vulnerable to this changing expectation environment. Though selling has pretty much been indescriminate across a number of asset classes, economies with current account deficits (CAD), such as India, are clearly going to be much more in the firing line," he told CNBC-TV18 in an interview.
He says there is a view out there that once the market adjusts to potential higher rate of growth in the US and as a result higher interest rates, the growth story will carry US and other DM equities ahead of EM equities, particularly those that have been fuelled by higher commodity prices.
However, the reallocation out of DM into EM is going to be driven by outlook for outperformance and it is going to be market by market, stock by stock, depending on where each individual economy is within its own cycle. In India, although, the market has held up a little bit better, there is concern that there is hot money that may flow out of the economy.
Below is the edited transcript of Mark Konyn's interview with CNBC-TV18
Q: The markets have now started to get used to the fact that eventually this ultra-loose monetary policy will come to an end. How are you adjusting to it? What should the equity market strategy be now? Should you be high on cash? Should you continue to stay invested in risky assets? What is the approach?
A: Markets are never very good at assessing turning points and we are at a turning point. That period of predictability around stimulus measures, whether it is in the US or whether it is in China, has pretty much come to an end. So the predictability has gone, hence we are hitting a turning point.
Markets are not good at assessing them and therefore a lot of money is being pulled back from particularly emerging markets (EM) and anything which is considered to be a high risk asset. In this environment what we have been doing is raising cash levels.
Q: We saw some debilitating falls across asset markets and nobody was spared - developed markets (DM), EM bonds, equities, commodities; every one of them. Hereon I would assume the falls will be more discerning. Which will be the outperforming markets in the next quarter even if all of them fell?
A: You are absolutely right there in the early stages of this recalibration around stimulus measures. As we saw at the end of May, beginning of June it was pretty much indiscriminate selling across a number of asset classes. If we look at fund flows for example in the United States, in the first week of June we saw selling in US equity funds, we saw selling in high-yield funds, in bond funds in general. Pretty much all asset classes were coming under fire and we are seeing that continuing into EMs.
The selling in EMs is likely to continue for longer, because international money is being pulled back from the periphery of where they are exposed to risk. They will consider EM exposure whether it is debt or equity as being much more vulnerable to the changing expectation environment. Economies with current account deficits (CAD) are clearly going to be much more in the firing line.
Q: If you look at glass half full, the views that came in from Ben Bernanke are that the economy is more sanguine of improving compared to what we have seen before and that will eventually lead to better earnings performance at least for the US markets. Do you think that eventually once all this mayhem plays out there will be a greater move towards DM equities, not just in the next three or four months, perhaps for a longer time duration?
A: There is certainly a view out there currently that once the market adjusts to potential higher rate of growth in the US and as a result higher interest rates, the growth story will carry US equities and other DM equities ahead of EM equities, particularly when you look at those EMs which have really been fuelled by higher commodity prices.
We are now in an environment particularly with the Chinese economy growing at far lower rates where commodity prices will remain subdued for sometime and as a result there is a view out there that DM equities will outperform EM equities. So it is going to be much more of a cyclical story in EMs going forward from here.
Q: At what point do you think EMs might start getting decent flows? How much do they have to devalue? How much will DMs have to become richly valued? Can you put a time period to it or give us something by way of levels by which EMs have still to fall to become attractive?
A: Certainly this sort of reversal of hot money is going to be rather indiscriminate and I do not think it is going to be based on any methodology around valuation. So this potentially could continue for longer. Your question really is at what point is there a reallocation out of DM into EM, I do not think we are going to see that big allocation given where markets are at the moment and where the economies are, relatively speaking.
It is going to be much more driven by the outlook for outperformance and it is going to be market by market, stock by stock depending on where each individual economy is within its own cycle. So I do not think we are going to see these broader allocations between DM and EM equities in the same way that we have seen in the previous decade.
Q: India has not seen too much by way of outflows. If you look at it from the start of the year, we have seen almost USD 15 billion of money come in, but less than USD 500 million of an outflow. Do you feel that India could be more vulnerable to outflows, going ahead, and thus underperform even within the EM basket?
A: You are absolutely right to point that out. At the moment, we are seeing outflows from EMs, even though India perhaps has been overweight for sometime within the EM basket. As investors pullback, it is clear maybe that overweight starts to come into question and there is that vulnerability, particularly with CAD, the concern that investors have hot money that is going to flow out of those economies that have a deficit, India being one of them. The weakness in currency has been exploited as a result. So, although, the market has held up a little bit better, clearly investors have lost out on the currency.