Over the last couple of days more than 5 large Chinese banks have filed for raising fresh equity in order to support their balance sheets after a year of break neck lending in which the Chinese banks have set a record on new loans. The magnitude of this fund raising is likely to be very huge and could be in the region of USD 50 billion over the next few weeks and couple of months.
I believe this fund raising will be largely to replenish the capital adequacy.
The bigger risk however lies in the fact that this year of huge lending is likely to be followed by growing NPA’s on the bank balance sheets which will need to be further funded by fresh equity. This can potentially set up a huge fund raising cycle in China and thus stall the rally in that country.
The key for us to evaluate is whether it can have an impact on other emerging markets also. On this I am not very sure. Although in a country like India where the credit growth today has come down to just around 10% on a year on year basis and most banks are adequately capitalised, there should not be any direct impact. The Non Performing Loans of Indian banks are well under control and the RBI has already tightened provisioning norms. However from a funds flow perspective such a large amount of fund raising can lead to a diversion in money flow and reduce flows into other emerging economies.
However from a fundamental perspective given the pace at which economic recovery is taking place in India, I do not believe this will have a lasting impact. Overall from a psychological perspective also markets continue to look attractive for the next few weeks and some data points on that are as follows –
-Mutual Fund cash holdings have gone up in India last month as fund managers have taken a cautious view after the sharp rally of the last few months
– A large number of foreign long only funds and hedge funds had increased cash holdings anticipating, both a correction and some resumptions which have not materialized. A lot of this money is likely to get deployed as the year comes to an end
– Too many hedge funds who are up in the positive are hedging and reducing risks in order to protect performance for performance fees. As a result hedging is greater than normal and the portfolios have also moved from high beta to low beta names
– Retail participation still continues to be low and lot of investors have used the rally to redeem rather than invest
– Retail money flow has been much more stronger on the long short side vis a vis long only funds, thus reflecting investor preference is still to protect downside rather than play for the upside
-There is a consensus that has build up over the last few days on a dollar bounce back. I believe that this sets the stage for a further weakness in the dollar before a bounce sometime in the first quarter of 2010
– News flow on large M&A activity, banking consolidation and reforms as well as very strong numbers of industrial growth for October 2009 ( around 12%) should provide downside support to the markets
Taking into account all these factor I believe that huge fund raising in China combined with some regulatory action to slow down loan growth can have a short term negative impact on that market. Also due to the sheer magnitude of the fund raising it can also slow down the upmove in other emerging markets. However on a overall basis the upmove should continue and we should see the markets trending up well into January. Depending on the levels of the markets at that time a view will need to be taken on whether one needs to lighten up on the markets and move to a more defensive portfolio.
“Models work when they are appropriate for a particular circumstance, but the best investment judgements come when people recognize that models derived in other time periods are either broken or not relevant”