Greece fails to form a government space and takes another step towards euro-exit; emerging markets’ equities trading down in a classic risk-off fashion; we still like Russia and Chinese H-shares based on liquidity and valuation; India’s policy machine is undermining the Sensex and INR; gold’s behavior since Q3 last year resembles a risk asset – regardless of price, gold should form part of long-term portfolio plans.
The failure of Greece to agree on a convincing government opens the door to a prolonged period of increased political uncertainty in southern Europe. It hardly needs stating that the world economy is now two years into a European debt crisis and it doesn’t appear to be anyone in European political circles with a clear plan. The absence of a government in Greece makes it ever more likely that the country will sooner or later be forced to admit that it cannot service its obligations. Default will inevitably follow, and probably exit from the Eurozone thereafter. Investors thinking that this is a quick win with little pain on the other side should consider that one default and exit will trail blaze the path that allows others to follow. The road to a permanent solution to Europe’s property, banking and government debt problems is a long one and stretches far into the distance.
It is against this backdrop that markets in both the developed and less-indebted emerging nations are going through another period of risk aversion and the continuation of moderate volatility. Month-to-date developed country equities have fallen 3.9% while in emerging markets equities declines have been much more severe. Ukraine has lost almost 11%, Russia is down 9.5% and Hong Kong’s China H-share market has given up 80% of its year-to-date gains. H-shares have lost almost 9% month-to-date. Being cheap, relative to history and relative to EM benchmark valuations has not helped markets avoid the move back out of risk assets.
A number of equity markets have not been helped by recent growth numbers and decisions in taken in political circles. Russia’s imposition of higher taxation on gas companies has hurt the hydrocarbon sector. The drop in Brent crude from USD125pb to USD110 has also had an impact. In India, fiscal uncertainty and changes to tax laws has increased financial uncertainty into equity markets. The announcement today that India’s wholesale price inflation rate has risen from 6.7%y/y in March to 7.2%y/y has undermined calls for the Reserve Bank of India to cut interest rates further and more quickly. India’s capital expenditure has been hurt by high interest rates and tight liquidity. Rising inflation is not a welcome addition for Indian equities and bonds.
Unsurprisingly, INR continues to face selling pressure, despite measures introduced by the RBI last week to increase demand for local currency by forcing traders to convert foreign currency earnings into rupees.
China’s H-share market has been undermined largely due to growth concerns in the world’s second largest economy and fears that the PBOC will not begin to loosen monetary policy quickly enough to insure against a slowdown. There is no need to repeat at length that China’s property market decline is policy-induced. It is important to repeat that China’s overall data is reasonably encouraging. Exports growth to the European Union has clearly stalled, but exports to the rest of Asia and to the Americas continue to hold up well. The concern gripping markets though loan data which came in well below market expectations in March. The PBOC responded quickly over the weekend by imposing a further cut in the banking sector’s reserve requirement.
