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Brian Tora: QE and improving economic data drive investor sentiment

Emerging markets face turbulence as the West senses recovery


The past week has been remarkably busy for me, given we are in the middle of the holiday season. Putting together the latest edition of our newsletter for clients is always time costly, but worth the effort. Then there was the talk I gave to a number of local worthies on whether the credit crunch had been consigned to history. Their guess was as good as mine, in my opinion, but issues still lurk in the background, even if things are easing.

Talking of easing, one of my colleagues penned an interesting piece on life after quantitative easing for our newsletter. Given last week’s turmoil in emerging markets because of the mere hint that the Fed was about to cut back on its programme, his choice of topic seemed remarkably prescient. Of course, tapering the bond buying is an issue that’s been under discussion for some months, with plenty of conflicting signals coming out of Washington. Last week felt tricky, though.

Our own market suffered something of a roller-coaster ride but felt positively comfortable compared with emerging markets. India was particularly hard hit, with the rupee taking a tumble.

Inflation there is a serious issue, while the economy is stalling. So much for becoming the service centre of the world, which is how Indian businesses were trumpeted as software development and call centres blossomed.

Not that the problems were confined to India. Both Indonesia and Thailand have been having a tough time, while the Brazilian real has also taken a hammering. And all because the US is cutting back on the money it is printing.

Well, not all because. Aside from current account deficits conveniently financed from US cash, these countries have other issues to address, not the least being how to prosper in a lower growth, more competitive environment.

Nor were emerging markets the only casualty of Fed rumblings. A quiet bear market has developed in so-called risk-free assets. Ten year US Treasuries have seen yields rise by 25 basis points over recent weeks. The equivalent UK gilt has delivered an even higher rise in yield. Even German bonds are now producing a yield of 22 basis points above the levels a month or so ago.

Of course, this is not just a consequence of the growing expectation that tapering of Fed bond buying will commence next month. Strengthening economic data is driving a shift away from lower risk assets in the expectation that the next move in interest rates will be up. When, is the burning question? Here in the UK, Bank of England governor Mark Carney is keen to push expectations out to 2016. The market clearly believes this will take place at least a year earlier.

However, the market has been pricing in rate hikes on a number of occasions when they failed to materialise, so there seems no reason to believe it is any more accurate than in the past. This does not mean that the fall in shorter dated government bonds is ill judged. Indeed, I view this as a welcome acceptance that this particular asset class has nothing substantive to offer. The fall in values and consequent rise in yields must have further to go, though it won’t be in a straight line.

Which brings me rather too late in this particular snapshot of market behaviour to the vexed question of mining shares.

We had a positive cornucopia of resource results last week, the high point – if that, indeed, is an appropriate description – being Glencore’s eye-watering write-down of the value of the Xstrata acquisition it only completed this year. Such are the risks of M&A. Mining, now a crucial component of the FTSE 100 Index, is a theme worthy of revisiting.

Brian Tora is an associate with investment managers JM Finn & Co


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