Emerging markets are picking up
Only a year ago, the Brazilian mining company Vale was struggling. The price of iron ore, its main export product, has fallen to a record low, investors dumped the company's stock, and China (the market that Vale is most dependent on) seems to be heading for an out-of-control rapid slowdown.
Fast forward to 13 months later, iron ore has once again become the darling of the market. Vale’s iron ore production set a new record, and the price more than doubled to nearly US$90/ton-bringing the company’s 2016 profit announced last month to US$4 billion, compared with a loss in 2015. US$12 billion. In Sao Paulo, Vale’s share price hit a four-year high last month, rising from less than 7 reais in January 2016 to more than 35 reais ($11).
Most of this round of recovery occurred at the end of last year and since the beginning of this year. Although the key factor for Vale is China's recovery, this is not the only reason for the revival of companies in developing economies.
The price of containerized freight (usually used to transport manufactured goods rather than bulk commodities such as iron ore) is also rising. According to data from the Norwegian company Xeneta, which tracks freight rates, the average cost of shipping a 40-foot container from China to Northern Europe under a short-term contract has risen from less than US$500 a year ago to US$3,285.
East-West trade, which has been in a doldrums for most of the past five years, is picking up. For example, the total revenue of Vietnam's garment industry has increased from US$7 billion in 2009 to US$26 billion last year.
Michael Laskau, managing director of Nhabe Garment Corporation in Ho Chi Minh City, said that the United States has driven their sales. The company supplies retailers such as Calvin Klein, Tommy Hilfiger, and Ralph Lauren.
He said: "There is no doubt that the growth of Vietnam's garment industry comes from the continued strong demand in the United States and the transfer of Chinese manufacturing capacity-in order to take advantage of our lower costs."
Doubts say this is just another small turn for the unstable economies of the emerging world. But others insist that this has brought a sustainable rise to emerging markets, even if President Donald Trump is threatening to withdraw the United States from the world economy and tear up the global trade agreements that many emerging markets rely on.
"Trump deal"
The core argument of the optimist is China's recovery in the past year. Fearing a "hard landing", Beijing has guided the Chinese economy to avoid a potential crisis by injecting credit into key areas such as the real estate market. This in turn helped support the prices of raw materials such as iron ore supplied by export companies in emerging markets.
In the end, it may just postpone the inevitable credit crunch that many people worry about because it has aggravated China's huge debt burden. But at least in the short term, this has left emerging market investors behind the disastrous prospects.
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Optimists say that the reason for optimism is not just China. Many people believe that Trump will not be able to deliver on his promised protectionist measures that may cause severe damage to export companies in emerging markets. Others believe that through tax cuts and increased infrastructure spending, the US government will boost global demand.
David Hensley, an economist at JPMorgan, said that the emerging world may even enter a virtuous circle-optimism drives investment, which in turn promotes productivity and profits, and brings more investment and more change. Rapid growth.
According to data from the Institute of International Finance, in January this year, the average growth rate of gross domestic product (GDP) in emerging markets has climbed to 6.4%, the fastest monthly growth rate since June 2011. If confirmed, this will mean that emerging economies are reversing the downward trend in growth since the global financial crisis.
Hensley believes that this round of recovery has a solid foundation. "From the data, what we see is that companies have become the driving force of global growth again," he said. It may not be surprising that companies should promote growth, but such normal behavior has been disrupted in recent years.
Hensley said that the “taper tantrum” of 2013 - expectations of the Federal Reserve's (Fed) tightening of monetary policy that caused investors to flee emerging markets - and the collapse of oil prices in 2014 and the Chinese stock market crash in 2015. These are all factors that have led to a substantial tightening of the credit environment. As a result, according to data from the International Finance Association, net capital outflows from emerging economies reached US$735 billion in 2015. Although capital outflows continue, the speed has slowed.
"This is an extremely complicated period. The end result is that global growth is slowing, and the slowdown in emerging markets is particularly severe," Hensley added. "Then, last year, we started to get rid of these shocks and alleviate these symptoms."
He said that since then, not only the United States, but also corporate profits around the world have rebounded. Corresponding to it is the recent sharp rise in the Purchasing Managers Index (PMI). The index is an important indicator of a country's economic activity, and it can show the confidence of a company in the health of the market in which it is located.
Although the PMI in developed markets has improved faster than in developing markets, both have recently shown expansion. For emerging markets, the PMI of developed countries is usually the most important because their exports depend on the demand of the latter. Optimism is spreading to the real economy, and manufacturing output has risen.
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If there is no rebound in investment, it will not make much sense—investment is crucial in laying the foundation for productivity gains and sustainable growth. JP Morgan Chase data shows that at the end of last year corporate profits and capital expenditures have both rebounded significantly, and economists at the bank expect this trend to continue.
Trade data provide more basis for optimism. The analysis of export data by Capital Economics, a London research institute, shows that large emerging market exporters have had a strong start this year. In January, exports of China, Brazil and South Korea (in U.S. dollars) all experienced strong growth.
For those who worry that this round of recovery may be all caused by rising commodity prices (like previous rebounds in emerging markets), the data reveals different facts. Although the recovery in commodity prices over the past year has played a significant role (not only increased Vale’s 2016 profits), other export companies, including Brazilian automakers and Korean electronics manufacturers, have also achieved overseas Sales growth.
Investors have reacted. This year, funds flowing to emerging market stocks and bond funds have turned positive for the first time since 2013. The International Finance Association estimates that in the last three months of 2016, foreign investors withdrew more than US$38 billion from emerging market stocks and bonds, but more than US$12 billion returned to these markets in January this year.
Last year, Sergio Trigo Paz, head of the emerging markets fixed-income investment department at BlackRock, the world's largest asset management company, accurately predicted a rebound in emerging market bonds. Today, he is talking about the "great shift" from unorthodox to orthodox monetary policy, from fiscal austerity to stimulus, and from traditional politics to populism.
He said that this shift will benefit emerging market assets, and said that although interest rates may be rising (starting at very low or even negative interest rates), inflation will also rise. Emerging markets will provide "the only hope that real returns are positive," he said.
In addition, the Trump administration's fiscal stimulus plan will bring inflationary effects to the United States and foreign export companies. "The United States has a way to do it. It will take three years to deliver, but Congress will vote on it this summer-investors have long believed this," he said.
The danger lies in populist politics. "Business managers can predict cash flow for the next three years based on inflation and infrastructure spending," Trigo Pass said. "But (Trump) a tweet at 3 in the morning can ruin everything." .
Deflationary wind
For emerging markets, China’s influence has not always been positive, especially in recent years. Some analysts still believe that the rise of the Chinese economy or populism provides an opportunity to buy emerging market assets.
When China’s demand for commodities reversed, China’s Producer Price Index (PPI), which measures the cost of companies buying and selling goods, experienced a 54-month decline until last September. This has triggered deflation in the entire emerging world, leading to a reduction in the income of export enterprises and the erosion of corporate profits.
China's PPI has now turned to an increase, with an increase of 6.9% in January this year. But Michael Power, Investec's strategist, doesn't believe the prospects will be bright. "If the RMB exchange rate against the U.S. dollar stays at the current level, it's good," he said, "but I'm not sure I can maintain it."
In this regard, he mainly attributed to the broad expectations of a stronger dollar. If the US dollar continues to strengthen and the renminbi further depreciates, China's downward pressure on global prices will continue. If this is the case, it will be difficult for companies around the world to keep prices and profits high, which will weaken the motivation for investment and growth.
A closer look at China's rising PPI will further expose the fragility of the situation. In the past, before any major changes in China's PPI, the PMI of the entire emerging market would undergo similar changes—because the increase in demand from China and other emerging market companies would naturally lead to higher producer prices.
But this is not the case now. The latest data shows that purchasing managers did not plan any large expenditures, but PPI has risen sharply.
Supply instead of demand
Bhanu Baweja, head of cross-asset strategy for emerging markets at UBS, said that rising Chinese producer prices reflect supply, not demand. Therefore, the rise in oil prices coincided with the reduction in US crude oil production; the strike of the world's largest copper mine in Chile pushed up copper prices; although Vale reached a record output, last year's iron ore output was still lower than expected. China’s iron ore demand is driven by steel companies that crack down on scrap use, rather than end users’ demand for more steel.
"If what we see is driven by supply, as it seems to be happening, it is difficult to prove that demand will pick up," Baveja said. "The idea that the global economy has entered a re-inflation and that all emerging markets will rise, has been confused by the annual changes in commodity prices."
Baveja agrees that it is reckless to underestimate the impact of rising PMI, but he questioned whether these data can really show feedback on economic activity.
He believes that historically, the US’s new order-to-stock ratio should be expected to bring about 25% of export growth in emerging markets, but such a thing has never happened. In fact, the latest data from the Institute of Supply Management (ISM) shows that although US manufacturers’ orders are increasing, their imports have not changed.
He pointed out that in terms of comprehensive purchasing power parity, in 2017, the total GDP of all emerging economies is expected to grow by only 0.5%. Any improvement should be entirely attributed to Brazil, Russia, Argentina and Venezuela. Brazil is getting rid of the two-year economic recession, the Russian economy has been hit by sanctions, and Venezuela’s annual GDP growth rate has increased from -10% to -5%.
The key to the sustainability of the rebound in emerging markets lies in China's real estate market. The Chinese government continues to tighten controls and takes measures to prevent bubbles, while also intervening to maintain demand. However, the current concern is that the real estate market may have peaked, and housing prices in many cities have fallen at the end of last year.
One major concern is how much credit Beijing has to inject into the system in order to maintain demand. Baveja pointed out that last year, China’s credit impulse (a measure of changes in credit growth) was comparable to that of the 2009 economic boom, but the base was much higher. "As China's real estate market begins to cool down, we may become too optimistic about emerging markets," he warned.
Emerging market assets will not suffer in the short term. Instead, he said: “From the perspective of the past five years, corporate earnings in the first and second quarters look good.”
He said that it is foolish for investors not to join this rally. But they should be cautious in anticipating that the rebound will continue.
Exports will increase in 2017
Driven by rising commodity prices and a moderate increase in demand, the export value of emerging market countries in US dollars in 2017 will increase for the first time since 2014.
The export recovery may, to a certain extent, resolve people's pessimism towards emerging market countries. In the early years of this century, many emerging market countries used strong export growth as a springboard for rapid economic development. Later, exports turned from prosperity to decline.
“In the first half of 2017, we will see a lot of headlines (export growth in emerging markets) accelerate,” said Banu Baveja, head of cross-asset strategy for emerging markets at UBS. He believes that in the first quarter of this year, exports from emerging markets (in US dollars) will grow by 8% to 13% year-on-year, "completely getting rid of the negative growth currently reported."
Capital Economics Chief Asia Economist Mark Williams added: "We expect that the performance of emerging market exports in 2017 will continue to improve, and the value of exports will grow moderately year-on-year."
Since October 2014, the export value of emerging markets (in U.S. dollars) has been declining. Even without the extreme decline during the global financial crisis from 2008 to 2009, it lasted much longer than then.
Williams pointed out that data from Brazil, Vietnam, Taiwan and Chile in early November showed that the export situation has continued to improve since October.
Williams said that according to Capital Economics estimates, the global economic growth rate will rise from 2.5% in 2016 to 2.8% this year. “The export value of net commodity exporters in the emerging world (in U.S. dollars) should increase year-on-year. It's about 20%."