We cannot take ownership for coining this phrase. It has been used before to describe the situation prevailing in Asia when nervousness from the US has a spillover effect in the region. The last significant correction which was witnessed by Asian markets was in mid-2006, before a sustained bull run which ended only recently.
Following the Dow Jones Industrial Average hitting an all-time high of 14,000 on July 19, the main Asian markets also marked fresh new records. Hong KongÆs Hang Seng Index climbed to 23,472 on July 24, while SingaporeÆs Straits Times Index surged to 3,665. The Korean KospiÆs historical high of 2004 came one day later on July 25.
Then suddenly everything changed as equity markets went into free fall, with the pessimists predicting that Asia was finally going to share the pain of the US subprime situation. This time, the US may have done much more than sneeze. And Asian equity markets seem unsure of how they should react.
Investor bullishness has evaporated quickly in the aftermath of the US market meltdown. This is partly because the subprime quagmire has been more devastating than expected. The main Asian markets have dived almost 10% from their peaks in the three weeks of trading since the subprime situation started hogging newspaper headlines.
ôGlobal funds trying to book profits in Asia, where some markets have gained more than 20%, may have caused selling pressure in the region; as the market falls, margin calls may be triggered, compounding the sell down,ö explains Lorraine Tan, Standard & Poor's vice president for equity research in Asia. ôOthers are not selling, but are also not putting fresh money into the market until it calms down.ö
It seems equity markets in the region have not yet found stable ground. The US subprime turmoil spilled over to the other side of the Atlantic last week. Selling pressure in European markets was triggered on August 9 when European bank, BNP Paribas, froze funds aggregating to more than $2 billion, which had US subprime market exposure. This led to another round of selldowns in Asia.
Current estimates suggest that the financial fallout of the US subprime mortgage market could be over $100 billion. And the delinquency continues to increase. This represents a real loss, which is going to be suffered by money managers, insurance companies and other financial sector participants.
ôThe market decline is not surprising because people were getting complacent,ö is the view of Malcolm Wood, Morgan StanleyÆs regional strategist, who strikes a cautionary note. ôSentiment was very bullish in Asia and people have been reminded that financial market linkages between the US and Asia are still quite significant.ö
ôThe US is still the key export market for many Asian countries, so it will necessarily impact some of these economies,ö says Wood. Much of the production in Asia is targeted for US consumers. Weak equity markets and reduced access to housing finance will cause these customers to reduce their spending. This is bound to have an effect, for example on China, for whom the US is a large trading partner.
But others see less tangible reason for concern in Asia. Analysts in the region have commented that selling pressure in Asian markets reflects panic rather then any fundamental weakness in Asian economies. Most emerging markets in the region have used sustained periods of growth to strengthen their economies. Many economists suggest that decoupling of Asia and the US ie. the idea that growth in Asia need not be correlated to performance in the US is now very likely.
Paul Schulte, Lehman BrothersÆ equity strategist for Asia, cites analysis the bank has done on the credit worthiness of Hong Kong and Singapore, which corroborates that in aggregate these markets are far more creditworthy then US equities. ôI think 95% of the market tumble is nervousness,ö is the view of Schulte.
S&PÆs Tan agrees with Schulte commenting, ôWhen markets melt down people pull their money out because of fear and so some funds may have seen redemptions.ö
The fact that Asian markets had been scaling new heights daily, makes them more susceptible to knee-jerk reactions to negative news. ôBefore this pullback a lot of the good news had been discounted,ö says Wood. ôFor us to get bullish in the short-term, markets need to pullback more or we have to conclude that the outlook for Asia has improved (further) since weÆve already factored in a fairly optimistic outlook.ö
Korea has probably been the most hard-hit among the main Asian markets over the past few weeks and has plunged 8.8% from its peak to close at 1,828 on August 10.
But experts are not surprised and cite the fact that the Korean market was also among those which had gained the most, making it ripe for correction. ôKoreaÆs equity markets have done extremely well in the past couple of months, with probably only China performing better over the same period,ö says Morgan StanleyÆs Wood.
Lehman's Schulte notes that the Korean market is the most leveraged, again having the effect of making it more vulnerable: ôIf you have a credit crisis, markets like Korea tend to get hurt the most because the risk of credit problem is heightened. People just want to avoid the leveraged kind of stuff.ö
The Singaporean market has also been bearish in the aftermath of the US correction, with the Straits Times Index plummeting 8.3% from its all-time-high to end the week at 3,359.
ôSingapore was hit hard on August 6, probably because of the exposure of the three main (Singaporean) banks to the US CDO (collateralised debt obligations) markets,ö says Morgan StanleyÆs Wood.
Experts note that the market capitalisation the said banks lost was more than their actual exposure to these instruments, thus selling pressure was sentiment rather then event-driven. ôI think their actual exposure is not that significant, and the market has just over-reacted,ö says S&PÆs Tan.
Hong KongÆs Hang Seng Index has had a choppy few days and shed 7.2% from its historical high to close at 21,792 on Friday.
Andrew Look, head of Hong Kong research, strategy and product at UBS, is categorical: ôThe reaction in Hong Kong is entirely nervousness as Hong Kong companies have little to no exposure to US subprime hence earnings are not at risk.ö
Arguably HSBC is exposed to US subprime due to household lending in the US, but management has conservatively - and proactively - already provided for its exposure. UBS' Look thinks sentiment will turn as long as the Hong Kong and China economies remain strong.
ôI doubt market volatility will last very long as impact on earnings is minimal and corporate earnings are key drivers of share prices,ö says Look, who expects improving corporate earning will drive the market in to positive territory.
Volatility the order of the day
ôThere is still a lot of liquidity in Asia,ö comments S&PÆs Tan. ôWhen markets stabilise, this money will return to the equity markets.ö
There is consensus among experts that the medium to long-term prospects for Asia are still positive, due to strong economic fundamentals in the region. However, the nervousness is likely to take some time to subside, suggesting that markets could take some time to recover - and are likely to correct further before they turn bullish again.
S&PÆs Tan agrees that the volatility may not yet be over: ôSelling pressure is still high and the markets havenÆt yet stabilised. In fact people are still worried about whatÆs going on in the US with some experts suggesting that the market hasnÆt bottomed out.ö
ôWe are likely to continue to see bad news from the subprime area with more banks and government institutions yet to disclose potential exposures. As the value of the CDOs is marked to market, exposures may widen,ö adds Tan.
ôWe expect volatility to continue over the next few weeks, and markets can probably go down a little more,ö comments Morgan StanleyÆs Wood.
Passengers are advised to keep their seat belts fastened û for now at least.
This market commentary piece focused on equity markets in Korea, Hong Kong and Singapore. Next we will look at India and Southeast Asian markets.