Asia market win belies soft underbelly as risks remain
The Emerging Asia Index outperformed other regions and the main Morgan Stanley Capital International Benchmark with a 13% advance in the first quarter, as China A shares turned positive, up half that amount, while Asean’s gain was only single digits. India and South Korea led with near 17% jumps, while Indonesia, the Philippines, and Thailand were ahead 5 to 7%. Regional frontier market performance, in contrast, was mixed, with Pakistan and Sri Lanka down 3% and 7% respectively, while Vietnam climbed 9.5%. Asia won as Latin America retreated from last year’s surge, and Europe was hurt by losses in Greece and Russia. Looking toward the broader first half, investors are relieved that currency and trade clashes have yet to erupt with the new US administration. As GDP growth and currency levels stabilize, enthusiasm is relative and could be reversed due to rising valuations, with steep price-earnings ratios compared with other regions, and risks in the banking system, private debt, and political issues.
China components, including Hong Kong-listed shares, were up more than 12% before the two-day summit last week between President Donald Trump and Chinese President Xi Jinping at Trump’s Florida estate. At the Chinese Party Congress, Premier Li Keqiang underscored trade-war dangers and an end to “hard-landing” talk with growth chugging along at 6.5%. Industrial output, fixed-asset and property investment, and retail sales all showed high single-digit gains in January and February, and a new services index was launched in official reports with equal buoyancy. The central bank described “big changes” toward a steady yuan direction against the dollar, and rating agency Standard & Poor’s ranked exchange-rate direction as the least manipulated among nine Asian countries with real appreciation over time and recent reserve decline. During congressional testimony, incoming US Trade Representative Robert Lightizer backed away from his previous harsh line and acknowledged that deliberate weakening was an “open question.”
Chinese banking and securities regulators continued to expand foreign access with easier licensing rules and plans for a “Bond Connect” in Hong Kong to join the existing stock channel. Local government bonds were added to Citigroup’s world index, and MSCI seemed to tilt toward additional modest A-share inclusion in its next review. Monetary policy was marginally tightened with higher repo rates, but commercial bank performance was hailed as “so far so good” with bad loans under control. However, top overseers hedged their praise with warnings of “huge risk” in unprotected shadow banking and “too high” corporate leverage still above 160% of GDP. The planning agency also admitted that trillions of dollars in local government debt may ultimately have to be covered by Beijing, as the OECD in a separate report urged removal of implicit state-enterprise borrowing guarantees and curbs on “bubbly” housing prices.
India returned to darling status as Prime Minister Narendra Modi’s party cruised to victory in crucial Uttar Pradesh state, and parliament passed his national goods and services tax, a signature reform. Banknote confiscation has diverted “black money” to the stock market trading at a frothy 17 times forward earnings, and the rupee hit a two-year peak against the US dollar in early March. Foreign-investor equity inflows are US$2.5 billion after outflows in the last quarter of 2016, and the current-account deficit slimmed to 1.5% of GDP. Bullishness has overridden qualms about possible harsher Hindu fundamentalist politics with the prime minister’s new Uttar Pradesh representative, and state bank cleanup complacency as deposits temporarily swelled with demonetization.
South Korea’s stock market was another pleasant surprise as former president Park Geun-hye was impeached and jailed on embezzlement charges, setting the stage for likely opposition party replacement in May elections with Moon Jae-in campaigning on an improved corporate-governance and North Korea-dialogue platform. He has also promised measures to rein in runaway household debt and to review shipping industry rescues, such as a US$2.5-billion infusion for Daewoo from the Development and Export-Import banks after Park’s departure. In comparison, Indonesia’s luster faded as cash was steered toward a US$2.5-billion bond issue and the $10 billion repatriated from overseas accounts in a tax amnesty lagged expectations. Mining disputes, especially with US giant Freeport-McMoRan, also drew negative investor attention, as second-quarter Asia views could turn more skeptical generally with deeper excavation.