In recent articles, we have mentioned that a number of causes both fundamental and technical have conspired to cause a sharp fall in asset prices. Heightened inflation concerns, volatile commodity prices and uncertainty over interest rate increases have caused damage on investors’ risk appetite. Fear has indeed overtaken greed as seen by the spike in the CBOE Volatility Index (VIX) or the so-called "investor fear gauge." Note that in recent years, investors have become aggressive risk-takers as the VIX consistently stayed below 20. In fact, every time the VIX hits 15 and above, equity markets bottom-out and starts to rally. Everyone is hoping that this pattern repeats once more, but it is yet to be seen.
There are two important observations we would like to point out to our shareholders and readers. First is that while the Philippine stock market experienced the third worst decline in Asia Pac ex-Japan, it is NOT because of any negative shift in fiscal or macroeconomic fundamentals but rather because of the sharp reduction in risk appetite for emerging market equities. And since Philippine equities had performed well (up 35.2 percent) during the strong run-up since October 2005, the decline that ensued was sharper.
Second is that the equities market is NOT the only asset market suffering a sell-off. In the same manner, emerging market bonds (including that of the Philippines) have declined sharply with indices losing about 15 percent from the previous month. It’s no wonder that Unit Investment Trust Funds (which will be discussed in Philequity Corner’s next issue), likewise, suffered significant volatility which led to redemptions. Even the seemingly unstoppable commodities markets have not been immune to this setback. Gold, for example, has dropped 18 percent of its price from last month’s peak, and silver has fallen by around 25 percent.
As early as March 2006, Governor Toshihiko Fukui of the BOJ announced that the quantitative easing policy would be ended by June. This would make it increasingly expensive for investors to roll over their cheap yen loans, which were primarily being used to finance investment in a wide array of emerging market assets. Liquidity is also tightening in the EU, where recent inflation data has shown a rise in core prices. Higher energy costs, very strong credit growth and accelerating economic growth had led the ECB to increase its policy rates last week.
However, the rally this time around may not be broadly based, as we are entering a period where structural forces are still positive but the cyclical outlook has deteriorated. Over the next few months, we expect the correlation among emerging markets to decline, so selectivity will become more important.
Despite the near- to medium-term consolidation, we continue to be bullish on the Philippines. We reiterate that nothing fundamental has changed but the period of excess global liquidity may be over. Hopefully, the Philippines, which has been fast-tracking its fiscal and economic reforms over the past year, will differentiate itself favorably against other emerging market countries.
For comments and inquiries, you can email us at info@philequity.net or gime10000@yahoo.com