China and Russia are just an excuse – developed market fundamentals are holding back markets argues Ashmore’s Dehn

18th March 2014

Russia and China are being used as excuses for poor global stock market performance when the real reason are fundamentals and QE supported valuations in developed markets argues Jan Dehn head of research at Ashmore.

In a note issued this week, Dehn says: “Global stock markets tumbled this week. Allegedly, this was due to Russia and China. China, so the story goes, is having a hard landing, this time due to softer than expected data, a lone domestic corporate bond default, and the unwinding of copper positions used by Chinese corporates as finance collateral.

“If these factors are really the cause of the weakness in US and Japanese stocks it is impressive how sensitive developed economies have suddenly become to events in EM. Sure, China’s share of global GDP and – more importantly – its share of global growth are no doubt important, but there is a problem with this theory: China is not having a hard landing and we don’t think that hard landing fears have caused stock market weakness in developed countries”.

He says China is not having a hard landing and along with Russia is being used as an excuse.

The note continues: “Chinese hard landing fears are a convenient vehicle for revving up negative sentiment to support a broader unwind of pregnant positions in developed equity markets”.

Dehn says the same can be said about the Russia story, while the markets attitude to Russia and energy is revealed by the oil price.

“The story here is that Russia is holding the entire civilised world hostage over Crimea, threatening the very foundations of global security. This is of course a bit ridiculous. For one, West Texas Intermediate crude would not be trading below USD 100 per barrel if there was a real risk to Russian energy exports. Russia accounts for 12% of global oil exports and is by far the world’s largest producer of gas. Russia and the West have overwhelming incentives to compromise, but only after a suitably public row. For now, this row too has become a great vehicle for amplifying the technical unwinding of positions in stock markets”.

The note continues: “Behind the juicy China and Russia stories lie other – real – reasons for the continuing weakness in developed stock markets. And these reasons are both more fundamental and far closer to home: The US Fed has been sitting at the very top of the world’s profligacy rankings, but is now slowing its bond purchases.

“QE policies in the US and Japan supported stock markets in both countries for years, to the point that technicals and valuations in both markets rose far in excess of what is justified by still relatively weak fundamentals. Add into the equation not particularly encouraging US data and growing pessimism about Abenomics in Japan and you begin to get at the real reasons for the ongoing pessimism in developed market equities – it is justified by developed market fundamentals, developed market technicals, as well as developed market valuations.

“EM fundamentals have largely been immune to the hugely negative sentiment about EM over the past twelve months. Sure some countries had to do some macro adjustment, But this is normal and not the same as crisis”.

Dehn also points out that each successive sell-off in EM is shallower and shorter. He says valuations are becoming more attractive with each sell-off, there are fewer sellers left as technicals improve with each sell-off and EM is failing to deliver a genuine crisis with each successive sell-off investors slowly come around to the view that EM is perhaps not as fundamentally vulnerable after all”.

Dehn has also given several country specific views


While the Western reaction to Crimea’s referendum decision to join Russia will grab the headlines, Russia has itself contributed to raising the rhetorical temperature by warning of Iran-style sanctions on account of the annexation of Crimea. In reality, US sanctions on Russia have been extremely modest, involving mainly economically irrelevant measures such as visa bans and asset freezes on those involved in Crimea and suspension of talk about a more simplified visa regime. Whatever the outcome of today’s meeting of EU foreign ministers, the EU’s appetite for meaningful sanctions also appears limited. We believe a major diplomatic tussle between Russia and Western powers serve the purpose of masking de facto Western impotence in the face of Russia’s actions.


The list of Western backers for Ukraine continued to grow last week. The European Commission offered USD 700m in tariff cuts. Based on the verdict of a recent IMF mission which is likely to support assistance for Ukraine we expect substantial support for Ukraine as EU/US seek to make a success out of Ukraine after Russia’s annexation of Crimea.


People’s Bank of China (PBOC) this weekend widened the trading band for USDCNY from +/- 1% to +/- 2%. This is part of China’s big shift from exchange rate targeting to using interest rates as the main policy tool. This shift in policy is in turn part of a broader preparation for a world of greater inflation and associated currency weakness in those developed countries that are printing money via QE policies. Band widening will increase the volatility of the currency in the near-term, but this move has to be seen as a step in the direction of capital account opening. This will be extremely positive for global investors, who will get access to China’s domestic bond market. For more details on our view of China’s reform path please refer to “Bull in a China shop”, The Emerging View, published last week. In a related development, MSCI, the index provider, announced that it intends to include China’s A-shares into the MSCI Emerging Markets Index by June, subject to Chinese government approval.


Turkey’s current account narrowed to a smaller than expected USD 4.8bn in January. The expectation was for a deficit of USD 5.3bn. Turkey’s external balances are likely to improve sharply this year due to falling import demand as interest rate hikes take effect and recent currency weakness stimulates exports. Turkey, like the other so-called ‘fragile five’ is likely to adjust quickly due to economic flexibility and the absence of the structural impediments to growth that dog developed economies. However, lingering election noise and problems of corruption will probably keep investment demand muted and therefore points to a sluggish recovery.


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