At the time of this writing, the US Dow Jones index had risen for a consecutive 10 days in a row, breaching its all time high, while the S&P 500 index also closed within 2 points of its previous all time high. There is a breath of fresh air in the US market that has drawn in many previous wary investors who had been sitting in the side lines. At the same time though, the Sing dollar and a fair number of Asian currencies has weakened against the US dollar. In particular, the yen has weakened significantly, resulting in a very robust performance from the Japan Nikkei index as well since the start of the year.
I believe that part of this is influenced by the global movements of money. Since the Global Financial Crisis, there has been a steady trend of money being moved towards Asia. As US and then subsequently, Europe grappled with their respective financial crisis, emerging markets, including Asia were attractive places to park money, especially as their currencies were steadily appreciating against the US and the Euro.
We are now seeing some pullback, as US markets see a surge. Suddenly, global fund managers that have been underweight US and Japan, and overweight Asia for the last 3 years are now seeing a strong performance in US markets. Like it or not, most global benchmark indices still heavily favour US, so any underweight in a stock market like the US, will reflect immediately on a global equity fund relative to its peers. So, while US markets have moved to new heights, a fair number of Asian markets have been moving sideways over the last two weeks. I believe this is more a temporary function of hot money being pulled back from Asia into US. After a pause, the trend of money flowing towards Asia will continue.
For now though, I do believe that both US and Asian markets at this point in time have much more upside left in them. It will not be a one way straight line upwards, but instead be punctuated by selloffs here and there, but these should be relatively minor and short lived amidst a broader upwards trend. There are three main reasons why I believe this is so.
Firstly, valuations are still not demanding. The US market trades at 14 times 2013 earnings. This is not considered expensive, but is not exactly very cheap either. However, we at least know that we are not yet near the top of a market cycle. Similarly, Asian markets, as represented by the MSCI Asia ex Japan index trades at 12 times 2013 earnings. This is definitely quite far away from danger high PE territory. So, with valuations still at fairly average historical levels, there is room for markets to move up.
Secondly, earnings will help to drive markets higher. This part is perhaps more tricky. I believe that the US economy will continue to recover and that Europe has turned the corner. With even Japan seeing growth in its economy this year, the global economic outlook looks positive. This should benefit Asia, since all these, especially US, is such an important export market to Asia. However, we aren’t exactly going to be seeing strong growth from these developed regions. It is likely going to be relatively slow growth, especially compared to the kind of growth rates that Asia tends to see. But then again, Asia doesn’t need US to grow at 6 or 8% each year. 2 to 3% is perfectly fine for a big developed country like US. The positive to this is that analysts have been busy revising earnings down since last year so we should now see a situation where there are upward revisions in earnings as opposed to downwards.
Lastly, there is still a very significant segment of investors here which are still understandably cautious. This is why dividend type products still see interest, even though we feel that smaller caps and growth oriented stocks should outperform dividend plays this year. Until we have enough of a shift from investors from cautious towards being bullish, we are still not quite in a bull run here. When a bull run is upon us, that is when investors embrace risk, when there seems to be nothing but good news on the horizon, and although valuations are high, investors don’t seem to care. When the market goes into a bull run, everything goes up, and everyone seems to stop caring about risk and just want to jump in. Quite clearly, sentiment is nowhere near that kind of bullish state here.
So, I think Asian markets are currently taking a pause right now because of some temporary flow back of hot money from Asia back to US. However, this is only temporary, and we will soon see Asian markets start to pick up pace again this year. After all, the strong performance of the US market reflects positivity on the state of the US economy, and a recovering US economy cannot be anything but good news for Asia. Be patient now, Asia’s time will come. Also, the US, Europe and Japan markets are large and important such that they shouldn’t be ignored by investors (and many here often do). Certainly, the US market and Japan has already surprised many here by their strength so far this year.