"Best ever bull" is a phrase that was used by J.P. Morgan's Adrian Mowat in a recent press briefing to describe the economic outlook for emerging markets. In contrast to the skeptics who are questioning the sustainability of the recent stock market rebound, the bank's head of equity strategy for Asia-Pacific views the current improvement in various stock market indices as the beginning of an ongoing expansion.
In line with its optimism, J.P. Morgan recently revised up several of its growth estimates. Its forecast for third quarter US GDP growth now stands at 2.5%, up from its previous estimate of 1% and significantly higher than the consensus estimates of 0.5%. For 2010, J.P. Morgan's growth forecast is 2.8%, while consensus estimates are at 1.8%. Mowat suggested that the latest economic indicators are signs that the global economy is getting back on the right track.
Indicators such as the US Institute for Supply Management Index (ISM) and the Purchasing Managers Index (PMI) are encouraging, added Mowat. ISM, which measures manufacturers' activity levels, increased by 17% from November 2008 to May 2009. And J.P. Morgan's global manufacturing PMI, which indicates levels of factory production, rose to 46.7 in June, its highest level since Lehman Brothers declared bankruptcy in September 2008. Mowat believes the improvements are driven by more stable domestic demand and inventory contraction in emerging markets, which are taking the lead when it comes to the global recovery. In China, the government's fiscal stimulus package and monetary policies are having a positive effect and thus consumer spending and infrastructure investments have started to boom. J.P. Morgan expects equities linked to China's domestic consumer sectors, banks and utilities, as well as construction stocks to continue to lead the stock market rally.
Countries that are net exporters, such as Taiwan and Korea, are also favoured by J.P. Morgan. The bank says the strong rally in the Taiwanese stock market is driven by liquidity flows resulting from tax cuts, government policies and most importantly, improving cross-strait relations. In Korea, positive outlooks for retail and auto businesses are being supported by favourable government policies. Low inventory levels suggest an increase in production that can boost the possibility of a healthy economic recovery. Both countries' currencies also remain weak vis-à-vis the US dollar ,suggesting exporters will benefit from larger export orders, J.P. Morgan believes.
Looking at the economies of Asian emerging markets, Mowat suggests a decline in risk premiums, lower risk-free rates and trade recovery are the three main drivers for robust rallies. He argues that central banks in the US and China are unlikely to raise interest rates in the short term as businesses are starting to benefit from lower rates. Moreover, central banks have learned "a painful lesson" from Japan, where the Japanese finance ministry raised interest rates sharply in 1989 to tackle the housing bubble, but ended up with a significant crash in the domestic stock market.
But Mowat sees risks ahead as well. Commodity prices have been rising, which could fuel inflation and harm the development of emerging markets which are large consumers of commodities. There are also concerns about commodities overheating and eventually create a bubble similar to what happened in July 2008, when speculators pushed up commodity prices and ultimately led to a correction across asset classes.
In addition, Mowat highlights a concern that the US economy will continue to underperform and result in a drag effect on the rest of the world. In the US, the unemployment rate is soaring - it reached 9.5% in June, which was its highest level in 26 years. Falling real estate prices are encouraging higher savings and consumer spending is suffering, which could delay a recovery.
Economic indicators in China have already turned positive, Mowat said, and added that Korea, India, Indonesia and Thailand are also showing positive signs. Among other Asian markets, Malaysia's economic outlook remains gloomy with GDP growth declining sharply. J.P. Morgan is conservative about Malaysia's economic recovery and says it remains uncertain whether Prime Minister Najiib Razak will be able to deliver effective fiscal stimulus to the market. Singapore and Hong Kong are expected to have a slow recovery along with other developed countries. Their large exposure to global trade and unsatisfactory employment numbers will possibly have a negative impact on their markets, J.P. Morgan commented. So, whether the momentum of growth in Asia's emerging markets can spread across borders is still a question mark.