Since the Spanish denial for bailout has taken so long, Richard Gibbs, Global Head at Macquarie Securities believes that when the bailout package is finally out, it will not have the positive impact on markets that one is hoping for.
According to Gibbs, QE3 and the liquidity measures by other central banks around the world have made it tempting now for investors to look at profit taking. “Investors will most probably want to go to that seasonal downturn in market liquidity and trading in an environment where they are pretty much squared in terms of positions. This means that we are likely to see some profit taking,” he said.
Gibbs feels that emerging markets (EMs) are likely to outperform the developed markets through the remainder of this year since they are the greatest beneficiaries in terms of any further global liquidity easing.
He further goes on to say that the Indian market will probably lead the pack in terms of emerging market performance.
Below is the verbatim transcript of the interview
Q: There seems to be some hope that Spain might finally ask for a bailout. Do you think that’s likely, and is that something, which will make the market happy in the near term?
A: The markets will certainly be happy to see the end of Spanish denial. I think we have reached a new high in terms of Spanish denial about the need for an economy wide bailout. And this is what we are now talking about, not just for the banking sector but for the whole economy. My concern is that since the denial has gone for so long, when we finally get the bailout package, it will not have the positive impact on markets that we were hoping for.
Q: There was some progress apparently in Greece as well, which has been simmering on the margin. Do you think there is any breakthrough finally in Greece with what you heard yesterday?
A: I think they will because they are pretty much locked into the process of reforms. I think they are pretty much resigned to the austerity measures at this point in time. That is not to say they are disruptive and dislocated in their impact, but at the end of the day, this is about reconstructing the Greek economy, and that has to be done in a much more productive and income producing manner.
Q: Do you think the developments in Spain and Greece overnight might spark on another phase of risk-on in global markets or do you see the next few weeks or the end of the year bringing about a lot of profit taking?
A: QE3 and the liquidity measures by other central banks around the world have made it tempting now for investors to look at profit taking. They have driven renewed rallies in a lot of markets, particularly developed market segments. As a consequence of that, we are seeing some stretched valuations. Obviously, investors will most probably want to go to that seasonal downturn in market liquidity and trading in an environment where they are pretty much squared in terms of positions. This means that we are likely to see some profit taking.
Q: How do you see emerging markets doing? Do you see the case for some outperformance relative to developed markets for the remainder of the year? Do you hear that kind of refrain from global investors that they want to put more money into this part of the world?
A: Emerging markets (EMs) are likely to outperform the developed markets through the remainder of this year. The reason being that they are genuinely are the greatest beneficiaries in terms of any further global liquidity easing. We have just seen the QE3 and other central banks including the ECB and the Bank of Japan engaging in this further round of global liquidity easing.
We do tend to find that by virtue of capital flows; also the impact of exchange rates favours the EMs. Now in terms of the pecking order, it is very interesting given the recent outperformance of the Indian market; it is probably in the best position to benefit from liquidity driven rallies in the remainder of this year.
The reason being they are not likely to feel the brunt of a strong appreciation in the exchange rates because India is not an export oriented economy; it is a domestic demand driven economy. The economies of South East Asia and North East Asia are really feeling the brunt of higher exchange rate against the USD. That is not the issue for India. I think the Indian market will probably lead the pack in terms of that EM performance. I think we are likely to see economies in Latin America also benefitting because it is substantially benefiting from sustainably lower US interest rates, and of course, liquidity easing measures in that economy. I would probably put China down towards the end of my list because of the uncertainty we are seeing in the Chinese growth trajectory.
Q: What is your sense of flows? We have been fed on very strong flows through the month of September, do you see that abating towards the end of the year or do you see a pickup from here?
A: I think liquidity will continue to be fairly benign for the rest of the year mainly because we are still in spurs of liquidity warehousing and caution in relation to counterparty risk. Also, there is caution in relation to risky assets and a commitment of long-term capital in the global economy. In that environment, you will see that credit and liquidity growth can remain at fairly tepid levels in terms of growth that they will support. It is unlikely that the global economy will grow at anymore than 3 per cent in the next 12 months or so because of that tepid liquidity behaviour.
Q: How are you positioning yourself for the last quarter of the year now? Tactically, would you want to become a bit cautious and take some money off the table?
A: I think you have to take some money off the table. You have to be very careful on the fixed income side. We have seen some substantial rallies in the global fixed income. By definition, it is fixed income asset, and therefore, it is less risky. But the bottomline is it does remains prime to capital loss, of course, in an environment where inflation or deflation takes off in the global economy. The extent to which we have seen long positions accumulate in the fixed income around the world, there is certainly a risk in that environment. I think the risk assets that we are looking at both are in defensive sector and sectors of economy where you can say high dividend yields are sustainable. Sectors like telecom, grocery retailers and even financial services, where we have renewed income, it is very stable and is supporting in terms of cash flow, the maintenance of very favourable and attractive dividend yields.
Q: How are you approaching India now from a tactical perspective?
A: There are certain issues for the Indian economy. But the interesting part is the impact on exchange rates, particularly in the emerging economies of QE3 and further global liquidity easing measures. The impact generally is to boost the value of that exchange rate against the USD. Now the issue the Indian economy faces is positive because it would lower the cost of oil, landing cost of food imports in Indian economy. It would help in assisting dampening inflation. This is because the Indian economy is primarily a domestic demand oriented economy and not a trade exposed oriented economy unlike those in North East Asian and parts of South East Asia.
I think India is in a more favourable position vis-à-vis the changes in the interest rates and the issues the Indian economy faces. In terms of supply side, the Prime Minister is really heading in the right direction with the latest announcements. If they continue then that puts Indian economy in a position where it can entertain substantially higher rates of GDP growth against the backdrop of subdued inflation.