Another day, another bloodbath in things that aren’t called “S&P 500”.
The public comment period expires tomorrow on the proposed $200 billion in tariffs on additional Chinese goods and it looks like Trump is going to go ahead and move forward with those duties in what would mark the most seriously escalation yet in his efforts to plunge the world into protectionism.
The psychological overhang from that was too great for Chinese shares, which buckled on Wednesday. Mainland equities fell sharply and in Hong Kong, the Hang Seng dropped the most since mid-June.
Tencent was a train wreck, falling for a fifth day in six. The shares were down more than 4% on the day and just to reiterate, this is bad for emerging market equities on the whole:
Regulatory risks are going to continue to haunt the company and that, in turn, is going to haunt EM stocks more broadly.
Meanwhile, the rout in Indonesia is on. On Tuesday evening, we said the following:
Argentina, Turkey, Brazil and South Africa are grabbing most of the headlines, but don’t forget about Indonesia (I can’t tell you how many times I’ve said that this year). They’re struggling mightily to relieve the pressure on the rupiah, which slid to its weakest levels since 1998 this week, despite multiple rate hikes since May and all manner of intervention by the central bank. The country now intends to put the brakes on some $25 billion worth of power projects in an effort to get a handle on the widening current-account deficit, which is the key source of concern in the current environment.
Well, on Wednesday, the Jakarta Composite Index fell nearly 4% in the biggest one-day slide since November 2016.
BI clearly needs an out-of-cycle (read: emergency) hike, but that could well dent stocks further, which is the paradox here for EM – you can hike to defend the currency, but that has the potential to dent growth and potentially undermine domestic stocks. It also contributes to the same dynamic that caused the problems in the first place. Recall this from BofAML:
The orthodox response to EM currency stress is central bank rate hikes. But this will serve to exacerbate the Fed-inspired liquidity drain already at work across markets. Note that year-to-date, the number of central bank rate hikes across the globe has shot up, and the pace is now almost on par with the pre-Lehman peak. And with less liquidity comes less “crowding” by markets into risky assets. Thus, investors should prepare for an ongoing period of high performance dispersion and idiosyncratic risk, in our view.
As far as the rand is concerned, things got worse on Wednesday following Tuesday’s rout. Yesterday, ZAR was beat up following GDP data that showed South Africa falling into a recession for the first time since 2009 and things deteriorated further today.
“The rush into the dollar that’s making the BBDXY and JPMorgan EM FX indexes diverge is being fueled by contagion concern and another plunge in the rand”, Bloomberg’s Benjamin Dow writes, adding that “traders have no incentive to ease their assault on the ZAR with two material catalysts on their side — a Moody’s credit-rating decision on October 12 and the ongoing land reform process.” ZAR is the worst performer in EM:
If folks were underestimating the risks late in August, they aren’t now. Here’s one-month implied vol., which is now above the highs hit during last month’s most harrowing days.
This is what contagion looks like. Some of this is bathwater and some of it is babies, but at this point, nobody is making any distinctions between the two.
Jerome Powell is going to have to revisit his assumption that EMEs are “resilient” (to quote remarks he made in early May) later this month if the situation doesn’t improve materially over the next couple of weeks.