Trading is a psychological game. Most people think that they’re playing against the market, but the market doesn’t care. You’re really playing against yourself. You have to stop trying to will things to happen in order to prove that you’re right. Listen only to what the market is telling you now. Forget what you thought it was telling you five minutes ago. The sole objective of trading is not to prove you’re right, but to hear the cash register ring. Martin Schwartz
Divergence.
The week had been marked by divergences, where the ASEAN equity bellwether appears to have defied the performances of her contemporaries around the world.
The FTSE-ASEAN[1] (AWASEAN, yellow) scaled higher as the region’s index MSCI AC ASIA Pacific[2] (MXAP, red), the S & P Euro[3] (SPEURO, green) and the US S & P 500 seem to have rolled over on a year to date basis.
One would further note that except for the Eurozone, Asia, ASEAN and the S&P 500 came off from their recent highs.
It is an important reminder that any divergences should not be interpreted as representative of decoupling. Signs of decoupling will be manifested once the next crisis emerges. Yet given the depth or scale of today’s globalization or social interconnectedness which has not been limited to trade, labor, capital flows or to even monetary policies, I strongly doubt that this should transpire.
In addition I pointed out the commodities have been rallying in the face of an enfeebled global equity markets. We seem to be seeing some rotation from financial assets towards the commodity sphere as markets await political developments abroad.
And another significant point to consider is that given the variance in the political economic construct of each nation, the global transmission of credit easing policies and artificially suppressed interest rates everywhere would have different impacts on different asset classes.
Nations that had been least affected by the last bubble bust should outperform. And this perhaps explains the ASEAN divergence.
Yet this has been an important theme for us for the longest time.
Transmission Mechanisms from Policies Abroad
I have been saying that policies abroad are being transmitted to the Peso and the Phisix.
Interest rate spreads, devaluation policies, real economic growth rate differentials, degree of economic freedom and political, regulatory and tax costs and risks among the many other variables serve as major inducements to foreign money flows into the emerging markets.
Under current conditions, emerging markets are expected to receive fund flows to the tune of slightly $1 trillion for 2011.
Reports the Bloomberg[4],
Net private capital inflows to emerging market economies will keep growing this year and next to reach $1.1 trillion in 2012, attracted by economic growth above 6 percent in those countries, a banking industry group said.
The Washington-based Institute of International Finance today also raised its estimates for 2011 inflows by $81 billion to $1 trillion to reflect higher forecasts for Brazil and China. That more than offset lower flows to the Middle East and North Africa as a result of political turmoil there.
“The strength of capital flows is still presenting policy challenges in a number of emerging economies, especially those already facing pressures from rising inflation, strong credit and asset price growth and rising exchange rates,” the IIF wrote in its research note. Monetary policy in these countries is “generally too accommodative, in large part because policy makers are so focused on limiting capital inflows.”
Countries from Indonesia to South Africa are striving to manage inflows of overseas capital that put upward pressure on their currencies, making exports less competitive, and threaten to inflate asset-price bubbles. Nations including China and South Korea have argued that U.S. monetary easing has added to cross-border money flows in pursuit of higher returns.
The accompanying chart is from the IIF[5]
The Philippines is part of the EM rubric, thus should be one of the recipients of these fund flows.
Foreign trade has supported the current recovery, from the November 2010 consolidation or the profit taking phase, in the Philippine Stock Exchange.
Net foreign inflows, as of the end of May, tallied 14.3 billion php [US $324.127 million]. This accounted for about 40% of daily trade. Above chart shows of the weekly trend.
The big drop in foreign trade during the other week had been due to 2 special block sales in Meralco [PSE: MER] and San Miguel [PSE:SMC].
There is a strong correlation between foreign flows and the Peso. The vertical line from the Peso chart partitions the year-to-date performance.
The foreign volume inflow spikes in April and May appear to be reflected on the Peso (see two red arrows) with two concomitant surges over the same period.
Meanwhile the recent outflows seen from the special block sales have coincided with the recent price sluggishness of the Peso.
So even at 40% share of daily trades, foreign flows account for as a major determinant to the price activities in the Phisix and importantly the Peso.
And as I have long been saying the correlation between the Peso and other popular metrics as remittance or exports have been tenuous[6].
Foreign flows are representative of the degree of demand for a currency.
Hence, currency traders must take heed of the activities in the PSE as part of their studies from which to derive their predictions
Another aspect is that the above estimates made by the IIF, I think, largely depends on current conditions which seem to presuppose the QE in play.
Thus a furtherance of the QE should translate to more capital flows into emerging markets including the Philippines. This means buoyant stocks and a stronger peso.
QE’s basically connect the Emerging Markets by transmitting bubble conditions. Some countries appear to be aware of this, as the Bloomberg report says, “China and South Korea have argued that U.S. monetary easing has added to cross-border money flows in pursuit of higher returns”
So while some reads this as somewhat positive, this represents a bubble process at work. Boom days will be met by a greater bust. The success of a prudent investor would be how one negotiates the boom bust cycle.
Rotational Process Continues, Politics as Main Driver
Rotational activities continue to dominate the activities within the Philippine Stock Exchange.
The industrials spearheaded the gains of the Phisix. This was largely due to the upsurge in Meralco (6.35%) [PSE: MER], Energy Development Corporation (4.09%) [PSE: EDC] and San Miguel Corp (6.27%) [PSE: SMC].
The financial industry, which I earlier said could be a candidate likely to help buoy the Phisix[7], has taken the second place. Meanwhile the mining sector continues to bedazzle with the 10th consecutive week of advances which has been defying my expectations[8]. In a bullmarket, overbought conditions can remain extended.
The Phisix continues to consolidate amidst signs of emerging weakness in the global markets. It is unclear if such divergences will hold or persist.
Although for as long as there would be no recession in the horizon, and where monetary conditions remain easy or accommodative as today, such variability in price actions remains a possibility.
True, there have been signs of economic slowdown in many parts of the world, but a downshift does not mechanically imply a collapse or a recession.
Seasonality can also be a factor. But this factor would come into play if other forces are restrained.
Yet barring any black swan or high sigma events, I don’t foresee any signs of an impending recession yet. So, over the short term, the Phisix or even global equity markets may just vacillate and look for direction.
Finally my expectations have largely been shaped by the prospective political actions by the political leadership, particularly by the US Federal Reserve on extending the QE program which is slated to end this month.
Although I expect that this extension won’t come automatically which I see as either tied to the US Congressional vote to raise debt limits or in reaction to growing pessimism in the some of the world’s economic environment due to a cyclical slowdown or to the accrued effects of signaling channels applied by governments or from mainstream’s addiction to inflationism. Besides if the debt ceiling will be raised this gives further excuse for the FED to activate QE 3.0.
However as clearly outlined, politics largely determines the outcome of the marketplace.
[1] Bloomberg.com The FTSE Asean Index is a free float market capitalization weighted index. FTSE All-World Indices include constituents of the Large and Mid capitalization universe for Developed and Emerging Market (Advanced Emerging and Secondary Emerging) segments. Base Value 100 as at December 31, 1986.
[2] Bloomberg.com The MSCI AC Asia Pacific Index is a free-float weighted equity index. It was developed with a base value of 100 as of December 31 1987.
[3] Bloomberg.com The S&P Europe 350 Index is a free float market cap weighted index that measuresthe performance of equities in 17 Pan-European markets, covering approximately 70% of the total market cap. It offers an effective balance between broad market representation and liquidity. The S&P Europe 350 is part of the S&P Global 1200. It has a base date of Dec. 31, 1997 with a base value of 1000.
[4] Bloomberg.com Capital Flows to Emerging Markets Seen Surpassing $1 Trillion, June 1, 2011
[5] Institute of International Finance Capital Flows to Emerging Market Economies, June 1, 2011
[6] See How The Surging Philippine Peso Reflects On Global Inflationism, December 6, 2009
[7] See A Bullish Financial Sector Equals A Bullish Phisix?, May 22, 2011
[8] See Phisix: Why I Expect A Rotation Out of The Mining Sector May 15, 2011
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