Asia

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Asia Financial Inclusion’s Selective Reach

2019 May 19 by

An IMF working paper, in view of inclusive growth’s place on the Sustainable Development Goals ahead of a UN conference, sets out to measure credit and insurance access progress across Asia, where many countries promote dedicated strategies. Economic and savings benefits are “well documented “and measured by indicators such as citizens with an account and the number of ATMs. Of the 40% unbanked in low and middle-income regions as of 2017, half were in Asia and only one-tenth of the population in these places formally borrows. Despite numerous demand and supply barriers, it outperforms peers amid wide disparities between developed Japan and Korea and poorer members like Myanmar. China, Malaysia and Thailand score well in traditional/ digital banking, while Cambodia and Nepal rely 60% on informal sources despite mobile money strides. Over half of Indians have a bank account following a push early in Prime Minister Modi’s first term, but only one-fifth use it. Gender differences are stark in South Asia, where only 30% of women versus 45% of men are banked. Poverty and rural location is even more exclusionary, with only 10% of poor Indonesians in the system. Higher income levels equate with inclusion, but governments can take specific steps to remedy gaps, such as Cambodia’s mobile public-private partnership, and the Maldives’ fishing boat outreach. Small Pacific island states like Samoa and Tonga have lagging infrastructure and wide interest spreads and are remittance-dependent, with correspondent relationships often in jeopardy from money laundering rules compliance. With their natural disaster threat, fintech is now promoted as preferred safer alternative. Asian companies have less concern about account ease compared with other geographies, but ones in Mongolia, Nepal and Sri Lanka cite both debt and equity constraints. The regulatory climate can be an overriding factor, and the Global Microscope survey based on a dozen metrics has India, Indonesia and the Philippines as leaders and Bangladesh and Myanmar at the bottom. However, consumer and privacy protections, and enforcement and supervision capacity are missing, according to the Fund document.

Public bank ownership can boost penetration at the cost of lower efficiency and earnings, and on the subcontinent usage is compromised by distance and collateral demands. Fintech is a major driver in China and elsewhere, with artificial intelligence reinforcing basic approaches, Chinese consumers have skipped a generation bypassing credit and debit cards, and ASEAN is far along with Thailand’s physical bank branches falling. Despite the region’s pace, it is behind Africa in mobile technology, where the East African Community is particularly active. The paper concludes that inclusion and broader development are not always correlated, with securities market building typically a distinct category. A separate Price Waterhouse-Economist study on major emerging markets projects trends into 2030, when China and India companies and stock exchanges are expected to dominate globally. Outside Asia, Brazil, South Africa and Russia will be top players, as the Chinese retail investor base of 300 million already will be a “huge pot.” The research notes that rivalry with New York and London is stiffer with domestic institutional assets and tighter corporate governance, while geopolitics remains a “drag,” with trade conflict and populism spread defying inclusion.

Asia’s Refashioned Frontier Frame

2019 May 11 by

Anticipating index provider Morgan Stanley Capital International’s June review that may hint at future Asia frontier index entrants after Panama and Bosnia were added from other regions, foreign investors have pinpointed a fluid Indochina and Central Asia candidate mix, with no clear immediate prospect. Cambodia and Myanmar are under international trade sanctions threat for political and human rights practice; Mongolia is in limbo under its International Monetary Fund program awaiting bank restructuring; and Uzbekistan after stock market opening and an inaugural sovereign bond is too small and tentative to qualify. Pakistan’s demotion from the core universe may be the first to make the list, as the rupee’s plunge leaves companies under the minimum $1.5 billion capitalization threshold. Sri Lanka’s frontier status in turn could be on notice should trading be suspended in the wake of terror attacks and subsequent security steps, with the blow also calling into question the specific elements of recent IMF agreement extension.

Myanmar has faded with uncertain foreign investor stock market access, and “depressed sentiment” from the Rakhine state refugee crisis highlighted in the IMF’s February Article IV report. Despite a 2018 agreement with Bangladesh over possible repatriation of the over 700,000 Rohingya fleeing, the military has refused to grant freedom of movement and continues to rule out citizenship as it faces United Nations accusations of “war crimes” during the expulsion. Aid partners are “closely watching” the humanitarian and economic aspects of the displaced population emergency, as Myanmar finalized a medium-term Sustainable Development Plan the last six months. It will be implemented through a top-level coordinating body under civilian leader Aung San Suu Kyi, ahead of the next national elections in 2020.

Gross domestic product growth slowed to the 6% range with manufacturing, consumer goods and tourism activity down. Business confidence slipped also with higher inflation and currency depreciation, with the fiscal and current account deficits near 3% and 5% of output, respectively. Central bank financing is still steep to close the former, and foreign direct investment to offset the latter “moderated,” with international reserves below the minimum recommended five months imports level. Annual credit expansion fell 15% to 20% under new prudential rules that strain private and state bank capital and profitability. Directed lending to agricultural borrowers was reduced, and foreign banks stepped in with recent licenses to support exporters, but the eventual cost of system restructuring could surpass natural disasters that historically have claimed several percentage points of GDP, the analysis suggests.

 Exchange rate flexibility and interest rate liberalization timetables could be faster in view of global “downside risks,” including potential European Union cutoff of duty-free garment imports, accounting for half the total and an estimated 500,000 jobs. The Fund reflected foreign fund manager views in urging a second generation reform wave focused on improved governance and infrastructure, privatization and skills training. Banking system fragility in particular must be “addressed quickly” with comprehensive balance sheet overhaul to facilitate capital markets launch, they concur.

Cambodia’s handful of listed stocks drew initial attention against a comparable high-growth and low-budget deficit and inflation background, and infusion of Chinese project and visitor money Resorts and casinos fueled a construction boom, with approvals over $10 billion the past two years, as extreme poverty defined by lees than a dollar a day income fell to around 10%. However the Hun Sen regime in power almost 35 years ranks 160 out of 180 on Transparency International’s corruption register. Political repression with regular arrests of opposition figures may trigger revocation under a one-year deadline of garment trade preferences to Europe, representing two-thirds of the $5 billion market.

Uzbekistan in contrast has been a darling since President Shaviat Mirziyoyev took the post in  2016 and vowed to dismantle his predecessor’s authoritarian legacy. In February its first external sovereign bond with a BB rating was oversubscribed, and in March currency convertibility and capital repatriation restrictions were eased. The $50 billion economy is projected to grow 5% annually over the near term, and single-digit inflation-targeting will begin after widespread food and energy subsidies are phased out. Natural resources including cotton, gold and uranium are lures and the government intends to unload non-strategic state company stakes through the Tashkent Stock Exchange. Current capitalization is $2 billion on price-earnings ratios under five times, with frontier acceptance despite aspirations and hype still on the distant horizon.

Asia’s Stock Sprint Wheeze

2019 April 28 by

Emerging Asia outperformed both the core Morgan Stanley Capital International gauge and other regions in the first quarter with an 11% jump, mainly due to the 30% surge in China “A” shares, the best result in five years. All other components were in the mid to high-single digit range, with Malaysia the sole loser with a less than 1% decline. India and Indonesia averaged a 5% gain as investors awaited the outcome of April national elections, while Thailand was up 6.5% as party haggling may persist over the next government’s formation, with the military again set to dominate through surprising voter support. Vietnam (+13%) led frontier markets, on actual and perceived trade diversion there from the deep US-China tiff, while Bangladesh (+7%) survived an Islamic bank failure and Sri Lanka was barely positive with its International Monetary Fund program extended another year.

Pakistan (+7.5) may rejoin the frontier list informally as it negotiates another Fund arrangement following Chinese and Gulf credits, with possible temporary capital controls to hoard foreign reserves. The China share bump, including 18% in the basic also Hong Kong-listed category, can be attributed to higher stock and bond index weightings, early year currency and growth stabilization, and a pause in export and foreign direct investment disputes with Western partners, but underpinnings are shaky. The Asian Development Bank before its dashed annual meeting, which underscored the extent of commercial and diplomatic hostilities with Venezuela as a test case as Washington pressed for Guidu opposition participation, slashed regional gross-domestic product expansion to 5.8% this year. It cited global trade policy uncertainty as the World Trade Organization predicted just 3% increased volume, and “sharper slowdown” in China and other major countries as overriding risks.

The National People’s Congress reiterated the 6-6.5% growth target, as the official purchasing manager index topped the neutral 50 mark in March, despite export orders down for the tenth month in a row. In January and February industrial output and retail sales rose 5% and 8% respectively, while mobile phone and car purchases plunged 15%.  Fixed asset investment as the longstanding driver was up just over 5%, and unemployment reached that same level for a 2-year peak. The Yuan strengthened 2% against the dollar over the quarter, as analysts now believe the previous presumed drop to 7 is unlikely, especially if a currency understanding features in an eventual Trump Administration tariff deal. The central bank reported reserves at a six-month $3.1 trillion high in February, and affirmed a “bigger market role” in exchange rate determination. Of the $20 billion in foreign stock market inflows the first two months, $17 billion came through the Hong Kong Connect, and MSCI expects the pace to continue with an $80 billion “A” share allocation by year-end.

However at the party gathering Premier Li revealed that three-quarter of provinces lowered growth goals, as the CASS think tank estimated that broad public debt from the central and local governments and state enterprises approached 150% of GDP. The separate private sector Beige Book found that first quarter corporate borrowing was the steepest since 2013, and called bank deleveraging claims “laughable.” Former central bank head Zhou, who held the post until the 2008 financial crisis, warned that excess debt lessons from Japan’s lost decades have not been absorbed. Total social credit, including from shadow sources is still advancing at a 10% annual clip, as onshore and offshore bond defaults begin to spread to also hurt equity values.

India’s 7% climb lagged the MSCI benchmark’s 9.5% before the mid-April election kickoff, and the ruling BJP party coalition may not win a majority according to early readings. The ADB kept growth above 7% this year, as the central bank downgraded the 1919-20 forecast slightly to 7.2%. Consumer price inflation was 2.5% in February, allowing a 25 basis point interest rate cut before the polls. The rupee mirrored the renimbi with a 2% first quarter uptick versus the dollar, with the current account deficit hovering at 2.5% of GDP. Fitch maintained its lowest investment-grade sovereign rating, but urged fiscal consolidation, bank cleanup and faster structural reform in a presumed second Modi term. That lasting formula is in order for the Asian equity rally to continue, in contrast to the confidence flickers to date.

Asia Bonds’ Narrow Escape Hatch

2019 April 21 by

The Asian Development Bank’s March local bond monitor, for the first quarter through mid-February, traced yield decline in six of nine East Asia countries as “improved investor sentiment” equally buoyed equity markets. The region outperformed the Morgan Stanley Capital International index with an 11% gain for the full quarter to beat Europe and Latin America.  All components led by China rose in the core universe except Malaysia, and the three frontier index members were also positive, topped by Vietnam’s almost 15% uptick. The rate fall reflected the US Federal Reserve’s pause, Chinese monetary easing, and Washington-Beijing trade talk progress. Currencies, particularly the Thai baht and Indonesian rupiah, in turn firmed against the dollar, but they are not “out of the woods” with lingering economic growth and private debt drags. Foreign ownership stabilized in the last quarter of 2018 and jumped in the Philippines, but internal and external strains, including the ripple effects of choppy Brexit, continue to haunt the $13 trillion combined bond market, the ADB warned.

In last year’s final quarter volume was up only 2% from the previous one, with China’s size almost three-quarters of the regional total. The government and corporate bond shares are two-thirds and one-third respectively, and Thailand is the largest ASEAN market. As a fraction of gross domestic product, the average approaches 75%, with Korea’s the highest at 125% as the number two overall with $2 trillion outstanding. Foreign fund inflows moderated at the end of 2018, as ownership in the Philippines and Thailand rose several points and in Indonesia came to 37.5%. The ADB growth forecast this year is unchanged near 6%, with healthy domestic demand cushioning trade expansion at a subdued 4% global clip. Hong Kong and Korea are the laggards in the 2-3% range, on regional inflation at the same level. However predictions could be upended again by sudden emerging market risk aversion that prompts fiscal and monetary tightening, the Bank cautions.

Credit default swap spreads narrowed from December-February, with the benchmark Volatility Index (VIX) down “sharply” with Chinese trade negotiation extension and the US government budget resolution. At the margin, the brighter outlook also aids “green” bond issuance for clean energy projects. In Asia, China was the most active with $55 billion placed between 2016-18, followed by India ($5.5 billion) and Korea ($2.5 billion), according to the Climate Bonds Initiative. Over the period ten emerging economies floated thirty instruments, and almost half were renimbi-denominated. Most are investment-grade rated and above $200 million, and pricing depends on underlying bond market depth as they are bought both by sustainable and conventional investors. China’s central bank has clear guidelines, and  Bank of China and China Development Bank are regular sponsors. Another study by the United Nations Environment Program points out that climate-vulnerable developing countries face an estimated 125 basis points borrowing cost premium from that risk, so asset class development should be a priority. The private sector yield demanded is steeper still, as economies “pay twice” with physical damage and higher debt service. On the positive side project and social preparedness investment show good returns, but greater international concessional funding is needed to create a “virtuous cycle,” the report suggests.

Cross-border local currency bond deals totaled $5.5 billion in the fourth quarter last year, with the biggest a Hong Kong dollar Chinese property company issue. Names from Korea, Malaysia and Singapore each represented around 5% of activity, and Laos’ government managed four Thai baht-denominated bonds worth $200 million. The longest maturity was twelve years with a 6.5% coupon. In hard currency markets 2018’s amount was down 15% annually to $295 billion, with China’s share at 60%, followed by Korea’s $30 billion led by the Export-Import Bank. Cambodia and Vietnam were on the radar with hospitality firm transactions in US dollars amid tourism pushes in both places.

Policy rates stayed intact across the nine countries tracked over the review period on lower inflation, while the yield spread between top rated corporate and government bonds dropped in Korea and increased in Malaysia. As regional commercial allocation deepens, central banks have rolled out local currency-denominated swap facilities. A recent $10 billion arrangement between Indonesia and Singapore includes repos, and is designed for the next time bond markets are in peril despite the ADB’s temporary reassurance.

China’s Bright Bond Future Squint

2019 April 14 by

As Chinese local bonds prepare to enter the Bloomberg Barclays aggregate index in April unleashing an estimated $5 billion monthly in foreign investor inflows, with the renimbi currency forecast also strengthened from the previous 7/dollar, the International Monetary Fund and government counterparts in Beijing released a several hundred page study on the market’s “bright” future despite opening and building challenges ahead. It coincides with the 40th anniversary of economic liberalization first concentrating on trade with World Trade Organization admission in 2001, and subsequently on capital market development, with the signature Stock and Bond Connects through Hong Kong aiding direct international access.  The promotional hype around the publication, including an event at Washington’s Center for Strategic and International Studies, was in contrast to China’s reported delay of a World Bank report on “new growth sources” that has been ready for a year.

 The Trump Administration did not weigh in formally on the bond roadmap but counts US inroads into the market as a victory even if underwriting and ownership totals remain paltry. The People’s Bank revealed RMB 3 trillion in January issuance with RMB 85 trillion outstanding overall, with the monthly government segment heavily provincial placement. State banks and enterprises remain a huge component, as the Paris-based Organization for Economic Cooperation and Development warned that corporate borrowing was up 400% the past decade to almost $3 trillion at the end of 2018. The Fund guide urges improved liquidity and risk pricing, implicit guarantee removal and further domestic and overseas investor outreach to balance allocation and stability on the way to maturity and global mainstream acceptance.

The research notes that cross-border financial lags trade and product integration, with the exception of bank lending to African and Asian countries under the Belt and Road and other aid-infrastructure programs. The push for a greater capital markets slice in the bank-dominated system was underscored in Premier Li Keqiang’s proclamation last year for “multi-tier bond and futures development.” In the corporate segment in particular after debt/gross domestic product hit 150% in 2016, the authorities demanded more efficient allocation and deleveraging, as 2018’s over 4% private company default ratio far outpaced the almost nonexistent state-owned one.  As portfolio inflows increase domestic monetary policy will more closely mirror global trends, but better bank supervision and more exchange rate room than under the current band can act as buffers.

 Sovereign paper was first introduced in the 1950s, but the corporate market is only 35 years old, and over the counter interbank dealing still is 90% of activity as stock exchanges slowly diversify into debt listings. The public sector including policy banks and local governments accounts for 60% of bonds, and corporates feature novel asset-backed and “green” structures. A quota regime was first introduced fifteen years ago for foreign institutional investors, and central banks and sovereign wealth funds gained full access in 2010. With the 2017 Hong Kong Bond Connect so-called northbound exposure “surged,” but international holdings are only 2% in comparison with the big emerging market average ten times that figure.  With the addition of China’s currency to the IMF’s special drawing rights basket, foreign central banks boosted their share to the same 2%, with $200 billion in renimbi reserves as of mid-2018. With expected index insertion in the Financial Times and JP Morgan gauges beyond Bloomberg in April, with the weighting there rising in phases to 5%, passive investors will direct another $150 billion to local bonds, the analysis calculates.

Near term practical steps can be taken to smooth entry pending broader policy and regulatory decisions, the Fund team recommends. Tax treatment is uncertain despite a declared three-year exemption, and hedging tools are limited for onshore cash positions. Domestic banks and mutual funds overwhelmingly follow buy and hold strategies that could be altered with more market making and repo lending capacity, and the central bank and securities supervisors should harmonize rules and communicate common development objectives. Mandatory credit ratings involve a dozen approved agencies after a fragmented screening process, and grading is 95% “skewed” toward the top AA category. Standard & Poor’s was recently granted its own license within the Washington-Beijing trade dialogue, but alone cannot tip the ratings scale to emerging market norms without larger cultural and methodology changes, the report suggests.

ASEAN’s Sleepy Stock-Taking Exercise

2019 April 7 by

Among ASEAN stock markets, only frontier component Vietnam was up double-digits through February, as Indonesia, Malaysia, the Philippines and Thailand could not excite investors to beat the core 9% MSCI Index advance. A Moody’s Ratings report captured economic “slower momentum” angst, and the International Monetary Fund weighed in with a Malaysia Article IV report almost a year after the Mahathir administration retook power citing fiscal and financial stability risks. The analyses addressed potential softness from commodity and tech trade and investment ties with China, as well as uncompleted infrastructure projects and commercial and capital market integration within the region.

 The current lethargy overshadowed a Price Waterhouse longer-term fund management study predicting Asia-Pacific assets to double by 2025 to $30 trillion. ASEAN’s cross-border collective investment scheme is modeled on Europe’s UCITS, and rapid urbanization has promoted “impact” investing such as green bonds. Singapore as the area venture capital hub helped generate a record $13 billion in deals in 2017, as governments consider additional small business tax breaks. This future vision also came with a stark warning that retirement savings into the next generation remain inadequate, even as countries strengthen private pension pillars to relieve pressure on official social security systems.

Moody’s projects gross domestic product growth after two years over 5% to fall to the 4.5% range through next year. While the US-China trade spat is a drag, monetary tightening fears faded with the Federal Reserve’s possible pause. The Philippines and Vietnam will lead the pack with 6% expansion as manufacturing exports slow for the rest, although Indonesia’s election spending will partially offset the trend. Thailand faces protectionism abroad and weaker public investment at home, and was hurt by Malaysia’s delay of the East Coast Rail Link connected to the Port Klang container center. Prime Minister Mahathir Mohamed is renegotiating debt terms, and while Thailand’s domestic demand is “relatively healthy,” intermediate tech and auto exports have increased only single digits in recent months.

Malaysia’s new government scuttled other ventures, as natural gas and palm oil earnings slip despite solid private consumption for below 4.5% growth this year according to Moody’s, while the IMF sees it just above that level. The rater expects the fiscal deficit to repeat at 3.5% of GDP, with the narrower goods and services tax pledged during the election campaign. The Article IV survey projects rising inflation around 3% on programmed fuel subsidy cuts, and urges the budget to incorporate contingent liabilities, with end-2018 public debt estimated at 52%, 3% below the agreed cap The current account surplus was 2% last year, and capital outflows reversed with local institutional investors hiking their share of Treasury bonds to three-quarters of the total. Monetary policy is neutral, but the central bank continues ringgit intervention with $100 billion in gross foreign reserves, while mainly private external debt is 65% of GDP. Officials clamped down on currency speculation through mandatory export conversion requirements and an offshore non-deliverable forward ban, and these curbs should be lifted in the near term, the report urges. Commercial bank bad loan ratios are under 2%, but household debt is close to 85% of output, with variable mortgages subject to interest rate risk. House price gains halved to 3% according to the latest figures and macro-prudential controls serve as a cushion, but are directed more to non-residents, the Fund cautions.

Indonesia growth will be 5% as it is less exposed to global trade cycles, but runs a persistent current account deficit forcing rate hikes to steady the rupiah, Moody’s notes. Inflation is at the low end of the 2.5%-4.5% target and could aid private fixed investment post-election. Singapore will lag at under 2.5% growth with export and house price decline. The Philippines’ pace is triple that figure under President Rodrigo Duterte’s original near 7% goal, but he will fall short at 6.2% this year. Over half of 75 major infrastructure projects have been launched to enable a 7.5% of GDP contribution by 2022, but the tax package to pay for it ratcheted headline inflation toward 7% and put the central bank on notice. Equipment imports in turn widened the current account gap, and rice costs have spiked with bad weather. May midterm elections will likely witness backlash despite President Duterte’s still high opinion approval, as voters spot faulty aspects of the signature “Build” program.

Asia’s Ineluctable Election Whirl

2019 March 24 by

The three stock markets in election mode were on average behind the MSCI EM Asia’s index 9% jump through February, with only Thailand around that mark while India lost 2% and Indonesia was ahead 3%. Incumbents, including Prayuth Chan-ocha as the military ruler vying to head a civilian government, are favored, although Indian Prime Minister Narendra Modi and Indonesian President Joko Widodo find themselves in unexpectedly close races with their economic growth and reform platforms offering mixed records. Both promised 7% gross domestic product expansion, and the former has been accused of fudging that figure while the latter consistently fell 2% short of his campaign target. Foreign investors are largely on the sidelines pending the outcome, as they plough money into index heavyweight China on the rebound with a new “A” share wave scheduled to join. They prefer also to add positions in Pakistan, up 10% with Gulf Arab money offering a rescue as International Monetary Fund talks continue. A  Kashmir border skirmish after early fright was cast mainly as another Indian poll risk. Even with solid second term victories, the trio will  remain outside immediate embrace so long as banking, debt and competitiveness woes persist, especially since they are glossed over in otherwise rousing candidate rhetoric.

India media surveys show 80% expectation that Prime Minister Modi and his National Democratic Alliance will keep a lower house majority in April, with the Rahul Gandhi-led United Progressive Alliance the chief rival. The contest is estimated to cost $8.5 billion, double the amount five years ago, and the ruling government following longstanding tradition has primed the fiscal and monetary pumps to secure voter support. Negative consequences will be overlooked until later this year, when state and federal budget deficits and   bank double-digit bad loan ratios will again be in the headlines. The last official quarterly GDP report had growth slipping half a point to 6.5% at the end of 2018, with the leaked unemployment rate at a multi-decade peak of 6%. Public statistics, attempting to mix formal and informal economic measures, otherwise underscore the current coalition’s outperformance on national account indicators despite several agency resignations in protest over methodology. A main exception   the politically-sensitive farm sector, is “under stress” according to analysts as food prices stay low to restrain inflation. To pre-empt criticism, the Prime Minister was ready with a transfer package of $10 billion to strengthen rural incomes, supplemented by middle class tax breaks to appeal to that constituency.

The central bank cut the benchmark rate 25 basis points in early February, and also agreed to increase the direct budget dividend to $4 billion to retain the 3.5% deficit goal as feasible in principle. The moves smacked of an election ploy and continued acquiescence by the nominally independent body to outside pressure under new governor Shaktikanka Das, a close Modi ally. In February more money was injected into public banks, but Moody’s Ratings warns the system needs further cleanup and acts as a restraint on future growth likely to top out at 7%. Following the default of investment-grade infrastructure lender IL&FS the non-bank “shadow” segment, where balance sheets ballooned 20% annually in recent years, is also in crisis with wholesale borrowing frozen and resolution postponed until after the elections.

In Indonesia a March reading has President Jokowi with a 20% margin over opponent Prabowo Subianto, with a clear urban-rural divide. The challenger has attacked over the current account deficit at 3% of GDP, and rising external public and private debt levels which cramp the currency, and predicts an upset as with Malaysian President Mahathir’s surprise triumph. Jokowi in turn touts anti-poverty programs and hundreds of billions of dollars in infrastructure spending, low 2% inflation and his hands-on decision-making style. However away from the political battle fund managers are heavily focused on a court fight over unpaid debt between Austria’s Raiffeissen Bank and a unit of the Lippo conglomerate controlled by the wealthy Riady family, and that outcome which will help dictate future allocation. In Thailand after the Royal Princess was disqualified as a contender General Prayuth and his party appear to have the fix in, but even if successful an economy policy correction is overdue with lackluster 3% growth. He may be the frontrunner for end-March voting, but large contingent fiscal liabilities after numerous army-directed outlays have yet to be tested commercially and democratically.

China’s Latin America Litter Litany

2019 March 17 by

China’s MSCI Index comeback, with double-digit gains through February, continues on strong foreign investor inflows. Morgan Stanley and Citigroup predict over $100 billion in allocation this year, even if “A” share weightings only increase incrementally. According to data trackers, around $10 billion went into equities in January, and the Shanghai exchange this week notched the biggest daily rise since 2015 and is up almost 20% for the first two months. Lunar New Year retail sales climbed only 8.5% on an annual basis, the worst performance since coverage began in 2005, and with US trade tensions the current account surplus was barely positive in 2018. However gross domestic product growth is expected to continue in the 6.5% range as the government again opened the fiscal and monetary spigots short of “flood-like” stimulus. It will likely widen last year’s 4% of GDP declared budget deficit, and total social financing hit a record RMB 4.5 trillion in January with a raft of new state bank facilities directed at small business in particular.

The enthusiasm sloughs off research such as respective Morgan Stanley and China Beige Book criticism that the economy is in “long-term decline “ and published national account numbers are “garbage.” It ignores the first offshore state company bond default in 20 years when Qinghai  Provincial Investment Group failed to pay $10 million due in Hong Kong, and stock exchange price-earnings ratios tipping again into double-digits toward recent averages. Retail investor margin loans have resurfaced as a catalyst, and any Beijing- Washington trade truce may prove short lived as President Trump extended the March negotiating deadline. With Venezuela’s eruption spilling over into neighbors, emerging market investors increasingly are wary about China’s large Latin American footprint as a new risk. Bilateral policy bank loans to Caracas totaled almost $70 billion the past fifteen years, according to a database compiled by the Washington-based Inter-American Dialogue. Internationally-recognized President and opposition head Juan Guaido pledged to honor outstanding obligations estimated at $20 billion for principal alone, and Ecuador as another major recipient just agreed on an International Monetary Fund program to be able to settle its own oil for credit ledger, but both contingencies could further erode Chinese financial system and fiscal discipline commitments.

In 2018, the China Development and Export-Import Banks lent over $7.5 billion to Latin American and Caribbean governments and state-owned firms, outstripping activity through the World Bank and Inter-American Development Bank. Venezuela took $5 billion, around two-thirds the sum, and Ecuador and Argentina, which received a record $50 billion IMF rescue last year, each got $1 billion. The Dominican Republic’s electric utility borrowed $600 million, with the regional sector focus as in the past on energy and infrastructure. The arrangements do not attach policy conditions but require Chinese contractors and equipment, as in Argentina’s railway and Ecuador’s earthquake reconstruction. In Venezuela its stake increased in oil output, as the Maduro administration announced the drilling of several hundred wells and a joint venture between the state monopolies CNPC and PDVSA.

Chinese facilities are on commercial terms, but in Ecuador’s case the interest rate was half the 11% through standard global bond issuance. With Venezuela’s additional funding last year, Beijing stipulated an end to a previous principal payment grace period, implying a country exposure limit even before the confrontation between National Assembly leader Guaido and incumbent Nicholas Maduro over presidential legitimacy. Elsewhere dams in Argentina were caught in corruption allegations, and a Bolivian one was halted after lack of local community consultation, the Inter-American Dialogue finds. These projects are under pressure to improve risk assessment and preparation, especially since they were rejected on environmental and social grounds by other development lenders. Latin America’s relationship to the multi-trillion dollar Belt and Road Initiative is also an open question, as Beijing emphasizes closer strategic areas geographically. Argentina and Ecuador reportedly wish to renegotiate loan terms, and Brazil’s new President Jair Bolsonaro campaigned on a platform of reducing oil company Petrobras’ Chinese bank ties. The big four state commercial banks at the same time have been more active in co-financing transactions and specialist funds, as the Asian International Infrastructure Bank also considers regional participation. The review suggests Chinese finance will turn more cautious, and investor sentiment as well, under near-term mounting losses.

Iran’s Somber Revolutionary Stockpile

2019 March 10 by

The Tehran Stock Exchange was down 35% in dollar terms on an annual basis through December, twice the loss of MSCI’s emerging market index, even as the rial-greenback exchange rate stabilized at around 120,000 after post-renewed US sanctions free fall. The currency still lost half its value against the dollar and euro the past year, as the central bank prepares a plan to lop three zeroes off the notes to symbolically restore confidence, following a familiar path for developing economies in double-digit depreciation and inflation. President Hassan Rouhani acknowledged on the eve of the Iranian Revolution’s 40th anniversary that recession and public discontent, from a combination of banking and oil export restrictions and slumping domestic consumption, heralded the worst crisis in decades even as European countries introduced a barter trade instrument for vital food and medicine imports. He promised to continue social spending for the poor and middle class in the latest $40 billion budget despite deficit widening. 

Stock pickers amid bargain single-digit price-earnings ratios now target selective value plays like chemical companies earning hard currency. Partially privatized banks Mellat and Tejarat are also actively traded, as the government forces them to sell real estate portfolios and concentrate on better credit performance to reduce the estimated 15-20% bad loan ratio.  However the currency regime is still a mess, with officials dipping into a presumed $100 billion reserve stash for defense, and jailing and executing unauthorized dealers at the same time without a longer-term strategy. Government borrowing through high-yield Islamic Treasury bills sent public debt toward 50% of gross domestic product, and injects financial system liquidity threatening to embed 20-30% inflation and decimate citizen purchasing power.

The International Monetary Fund expects the economy to contract 3-4% for the fiscal year through March, with daily petroleum sales mainly to Asia at 1 million barrels, half the previous level before Washington exited the nuclear deal. Tourism reportedly increased with the cheaper rial, but industrial production in the auto and other sectors and real estate sales sank 20-30% according to October figures. Europe’s special purpose financing vehicle Instex, created by France, Germany and the UK is at an early stage with only humanitarian shipments qualifying. It is unlikely to evolve into an alternative mainstream banking channel with the US “closely watching” in the words of Secretary of State Mike Pompeo, who is organizing further allied crackdown efforts at a conference this week in Poland.

 Instex’s founders have otherwise hesitated on strong commercial and diplomatic ties. The European Union in January imposed curbs on Iran’s Intelligence Ministry implicated in a Paris bomb plot, and Germany banned Mahan Air, which carries military equipment to Syria, from landing in the country. Damascus and Tehran recently struck a banking cooperation deal on post-war reconstruction estimated to cost $350 billion, as the World Bank calculated $3 billion in Syrian private deposits available in 2016, down from $15 billion at the beginning of the decade. Financing infrastructure around the capital is a priority, along with energy, healthcare and transport according to the two sides.

Yemen is another foreign adventure, with Tehran backing Houthi forces in Sana’a against the Saudi Arabia and United Arab Emirates’ allied, internationally-recognized government in Aden. A United Nations-brokered cease fire briefly allowed food aid and imports into the strategic Hudaydah port in a last-ditch effort to avert mass famine, as economic and monetary policies remain in chaos. The World Bank predicts 3% GDP contraction for 2018, following a 40% cumulative drop the previous three years. Inflation was in the 40-50% range after currency depreciation, staple goods shortages, and widespread money printing by the rival central banks in the two cities to cover public service and troop spending, despite civil service salary and pension payments in hefty arrears. State debt is at 75% of output, with the Sana’a Center think tank in December recommending a restructuring plan. With oil exports suspended and worker remittances dwindling from the Middle East, the current account deficit stands at 9% to shake the currency, even as $2 billion in Saudi deposits and fuel grants the last quarter provided support. The dual monetary authorities are at odds over supervision, and conventional and Islamic banks may join Tehran counterparts in unmet rescue anticipation.

Mongolia’s Foggy Misappropriation Mentality

2019 February 18 by

Mongolia bond positions turned underweight in global emerging market strategies, as tens of thousands of Ulaanbaatar protestors in bitter winter cold called for lifting the “fog” in a play on words combining the initials of the main People’s (MPP) and Democrat (DP) political parties. The action followed another spate of scandal revelations, including the parliamentary speaker selling government positions and insider abuse of a decades old discount mortgage lending scheme, where connected officials and families were able to earn tenfold returns on cheap money.

With the popular discontent new splinter parties plan to enter parliamentary elections in 2020, and the MPP Prime Minister Ukhnaagin Khurelsukh and his cabinet are likely to face another vote of confidence after an attempt narrowly missed in November, just a year after a predecessor was ousted for corruption. He claimed wealthy business executives were behind the move, but independent media commentators now urge resignation as the only route to safeguarding democracy. Neighboring China and Russia ties to be combined in an infrastructure and raw materials “economic corridor” impose their own governance strains, as Mongolia’s trade surplus was down 35% to $925 million through the third quarter of last year despite estimated 6% gross domestic product growth.

In October the International Monetary Fund released another $35 million under its 3-year $430 million program anchoring $5.5 billion in overall bilateral and multilateral assistance, amid banking system and foreign reserve warnings. At the same time Anglo-Australian miner Rio Tinto announced a delay in the $4.5 billion expansion of the Oyu Tolgoi gold and copper joint venture, where the state has a one-third stake. With mechanical challenges the first output may not come until late next year, and the operation could again be complicated by profit-sharing demands reflected in the country’s dozen place drop in the latest World Bank Doing Business rankings. Metal and coal export reliance spotlight these flagship projects, with limited diversification into other industries like processed textiles from cashmere. The European Bank for Reconstruction and Development estimates almost $2 billion in earnings potential from garment added value, and is advising local herders and cooperatives.

Ratings agencies maintained their “B” grade, with 6% range growth again expected in 2019 on inflation just above that level. The budget ran a primary surplus last year, and the central bank adopted a tightening stance in September, after selling 10% of $3 billion in reserves to support the depreciating tugrik currency against the dollar. The IMF review cautioned on a return to 20% annual credit extension even with the institution of macro-prudential limits, such as maximum debt service ratios for consumer and mortgage loans. It noted that bad asset classification and recapitalization exercises were incomplete, and that the Financial Action Task Force continued to assign low anti-money laundering scores. Continued decline in world gold and copper prices and Chinese shift to national coal production will widen the current account deficit, and fiscal loosening this year can pose medium-term public debt danger should the sovereign attempt to re-access markets under higher global interest rates, the Fund report implied.

In November the IMF also fielded a mission in Uzbekistan, and flagged economic “overheating” with 5% growth and 15% inflation, as the current account surplus slid to a 3% of GDP deficit.  Sudden price, trade and exchange rate liberalization under President Shavkat Mirzoyev sparked energy and water shortages, and agriculture suffered bad weather. Public wages were hiked 10% to compensate, as the central bank raised rates above 15% to fight government-directed credit expansion. Quasi-fiscal operations, especially through the Reconstruction and Development Fund, left a 2.5% deficit in 2018. In 2019 tax reform is a priority to close the gap, including better collection of value-added and luxury levies. State enterprise restructuring and divestiture is also on the agenda, with possible sales on the 25 year old Tashkent Stock Exchange. With 125 listed companies, only ten are liquid, with daily turnover under $100,000, according to frontier market specialists. Price-earnings ratios are under five times, and foreign investment in banks may soon be authorized, while public and private equity launches are in preparation through Hong Kong and London. Government leaders were in Germany in mid-January on a road show touting financial services, tourism, food processing and auto-making prospects, although specific deals were foggy.