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At a moment of extreme dislocation and economic uncertainty in North Asia, investors seem to agree on one thing: the bull markets of 2020 are far from over.
Or might this be wishful thinking?
This conventional wisdom stems from three dynamics widely seen as driving asset prices to even higher highs: the arrival of Covid-19 vaccines; solid post-pandemic recoveries; and central banks leaving the liquidity spigots open indefinitely.
These rationales remain in the driver’s seat. In Seoul, for example, the Kospi index continued running upward. The benchmark ended 2020 at record highs, up nearly 31%. It was the biggest annual gain since 2009.
The rally matters because South Korea straddles both the emerging and developed market worlds. On the one hand, the market’s surge reflects the same optimism driving up Japan’s Nikkei Stock Average and hopes for robust Chinese growth. On the other, it speaks to how Asia’s developing-economy bourses are having quite a moment more broadly.
Asia’s success in containing the coronavirus is paying big dividends. As growth returns to South Korea and China, for example, investors are adding to bullish bets. Since March, the MSCI Asia Emerging Market index has surged 63%, racing ahead of the vast majority of markets, including the US.
It’s not only speculative capital. Mom and pop investors in China, South Korea and Taiwan are putting more savings to work in Asian equities. Across Asia, more than 850 companies went public last year despite pandemic-related disruptions.
And while the 2021 pipeline has thinned quite a bit, more than 360 companies plan to list shares. That number could grow should these three driving forces continue apace.
The problem with this trio of propellants, though, is that there’s an even greater number of things that could go awry. Here are five of the biggest risks to Asia’s market confidence in 2021.
One: Vaccine rollouts go off the rails. The US careening toward 21 million coronavirus cases seems problem enough. Even if incoming President Joe Biden gets America’s act together after January 20, the globe’s biggest economy seems a bit too infected to thrive anytime soon.
Yet optimism that hundreds of millions – or billions – of vaccine doses can be distributed and administered globally in short order seems a tall order. The unprecedentedness of this health crisis has logistical challenges colliding with medical-expertise bottlenecks – vaccines require two perfectly timed doses.
There’s also a matter of convincing a critical mass of Asians to trust vaccines produced with seemingly supernatural speed.
The emergence of a new coronavirus strain that’s potentially 70% more contagious is a wildcard few investors saw coming. It remains to be seen, says analyst Neil Wilson at Markets.com, whether “corrections of this nature” will dominate in the weeks and months ahead.
Epidemiologists, for example, aren’t yet sure if the new variant is deadlier than earlier ones, but the possibility exists. Virus mutations are likely to keep medical experts and health care systems on their toes.
Nor do markets appear to be pricing the return of lockdowns. Take Japan, where stocks ended 2020 at 30-year highs with a 16%-plus gain. The Nikkei, on such a roll in 2020, now confronts another state-of-emergency declaration by the Japanese government as soon as Thursday.
Asia’s second-biggest economy is still struggling to shake off the fallout from the last shelter-in-place orders. It includes the return of the deflationary forces former Prime Minister Shinzo Abe spent eight years trying to defeat.
Nor does current Prime Minister Yoshihide Suga appear to have a particularly robust protocol for administering vaccines, testing or contract tracing.
Two: Biden might not make markets safe again. Some of the market optimism in recent weeks is a sayonara-Donald Trump trade. The specter of a respite from the outgoing US leader’s tariffs, Twitter tirades and arbitrary assaults on Beijing calmed nerves across asset classes.
So has the reduced odds of geopolitical flareups as Biden surrounds himself with a more seasoned and less vindictive foreign-policy team.
Yet what if trade tensions don’t recede as widely assumed? Though Trump isn’t known to play chess, he’s blocked some of Biden’s easy moves out of China tariffs. Biden, it’s worth noting, has said he won’t immediately remove Trump’s taxes on some US$500 billion of mainland goods.
The same may be true of moves to strangle Huawei Technologies, ByteDance’s TikTok and Tencent’s WeChat. And more recent hints of delisting shares of telecommunications giants China Mobile, China Unicom and China Telecom from US exchanges.
Worried about being branded easy on Beijing, Biden’s administration may let Trump’s policies ride, at least at first.
Biden, meantime, intends to tighten the screws on China in ways Trump didn’t by confronting Xi Jinping’s government on labor and environmental standards and intellectual property rights. He perhaps may even re-engage the 11-member Trans-Pacific Partnership trade bloc.
“Disagreements over trade, Hong Kong, Taiwan, and the South China Sea will carry over into 2021,” says Ian Bremmer of Eurasia Group. “Collectively, these points of dispute will boost the risk of miscalculation and escalation toward crisis.”
Three: Dollar instability that shakes the globe. Speculation that 2021 will be the year of the Chinese yuan is grounded in concerns about the US currency. As Harvard University’s Jason Furman sees it, “the economy is going to get worse before it gets better.” That includes damaging job losses in December and January.
Though vaccines “will help the economy a lot” this year, Furman notes, “we still have a very long, hard way to go” before the US is in recovery mode. The best-case scenario, in other words, is dollar negative.
That includes the odds that the Federal Reserve will continue churning out liquidity, while the People’s Bank of China holds its fire, comparatively speaking.
The balance sheet with which Trump leaves Biden is dollar negative, too. Between US debt hurtling toward the $30 trillion mark, a dumpster fire of geopolitical tensions and extreme political squabbling over Trump’s departure from office, investors hardly need additional reasons to sell the dollar. The trajectory of China’s yuan could be that reason.
The currency’s 6.5% rally last year was no aberration. Along with Xi’s tolerance of a stronger exchange rate, it’s a rational response to two dynamics. One is interest-rate differentials. US 10-year bonds yield just 0.9% to China’s 3.2%.
The other is China’s opening-up process. Xi’s efforts to have Chinese bonds and stocks added to international indexes is pulling in ever more capital. And making the future the yuan’s to lose.
Xi’s government needs to tread carefully, of course. Look no further than ill-timed speculation about Jack Ma’s whereabouts. First, the giant Ant Group initial public offering planned for November vanished in a cloud of intrigue and investigation.
Now “where is Jack Ma?” is trending on Twitter. The pulled IPO and breathless speculation since has investors fearing Xi’s Communist Party is making political risk great again in finance circles.
Four: Big missteps by fiscal and monetary officials. Ultra-loose conditions had already become an afterthought in the years after the 2008 global financial crisis. The Covid-19 shock is taking government and central-bank rescue maneuvers to entirely new levels. The question for 2021 is maintenance and sustainability.
As economist Steen Jakobsen of Saxo Bank notes, “the policy of near-infinite liquidity provision and easing financial conditions at all costs has pushed global sovereign and investment-grade corporate yields to historical lows and forced investors to take positions in riskier assets.”
The only way many of those positions don’t go sideways is if public money keeps flowing. Markets, in other words, are now calling the shots.
This, however, sets up a game of chicken between monetary officials and markets. One worry, articulated by former US Treasury Secretary Lawrence Summers, is that the explosion of stimulus could boost inflation or cause irrational exuberance in asset markets. Or, as Summers told Bloomberg, “risk a temporary overheat.”
Any hint of even modest monetary tightening could transport Asia back to the turmoil of 8 years ago. “Once we’re vaccinated, 2021 will feel like the 2013 taper tantrum,” notes economist Robin Brooks at the Institute of International Finance.
Five: “Japanification” risks abound. As the globe learned from Japan Inc, aggressive, prolonged and even indefinite crisis aid takes a toll on an economy’s animal spirits. Over time, it warps incentives.
It takes the onus off government officials to hone competitiveness. It gives CEOs fewer incentives to restructure, innovate and raise productivity.
The giant tidal waves of Covid-19 assistance have done more than cap credit spreads. They’ve kept bankruptcy rates at unnaturally low levels. Companies that might’ve failed have been propped up artificially, Japan-style, by the pandemic stimulus. This Japanification deadens an economy’s vibrancy.
“A decade of binge borrowing has turned many corporations into the walking dead,” warns Stanford University economist Claudia Robles-Garcia.
Look no further than the US, where the number of corporate zombies is rising fast. Among the household-name companies not earning enough to cover interest expenses: Boeing Co, Carnival Corp, Delta Air Lines Inc and ExxonMobil Corp.
By some measures, the ranks of the corporate zombies now make up nearly a quarter of America’s 3,000 largest listed companies.
The problem, says Robles-Garcia, is that, globally, companies are now sitting on far more debt than when the last one hit: $74 trillion at the end of 2019, 23% more than in 2008.
Stanford estimates that highly leveraged companies “have about $6 trillion of debt on their books,” Robles-Garcia notes. “Many of these companies have become zombies, with debt so cumbersome that it impedes their ability to contribute to employment and investment growth in the economy.”
As the costs of excessive stimulus grow and warp economies’ overriding dynamics, the fallout could affect confidence in Asian markets. And what of the cost of alternatives in cryptocurrency circles?
Louis Gave of Gavekal Research sees “bitcoin mania” as an under-appreciated bull market spoiler in 2021. Asian punters, after all, are among the globe’s biggest crypto enthusiasts.
“Investing in concept stocks with exciting growth prospects has been exhilarating,” Gave notes. “But let’s face it: hot Nasdaq stocks, Chinese internet plays and promising biotechs all of a sudden seem dull compared to the action unfolding in the crypto-currency space. Better yet: you can trade bitcoin 24 hours a day seven days a week.”
So, Gave adds, “as bitcoin continues to make new highs, will the marginal retail dollar start to forgo 2020’s Robinhood darlings and instead shift towards the roaring crypto market? Bitcoin’s growing market cap has to come at someone’s expense.”
For now, though, the running of the bulls continues unimpeded as 2021 gets underway. And perhaps faith in the arrival of vaccines, the return of steady growth and of central bankers refilling the punchbowls is well placed.
Yet today’s bullish sentiment may soon have a rather abrupt economic gravity problem.