As the dollar rises, outflows from Asia’s emerging markets is increasing, giving the region’s future an air of gloom.
In an ominous harbinger for equities in the region, given historical trends relating to foreign exchanges, one gauge of Asian currencies had fallen to the lowest it has been in over two years. As foreign investors have withdrawn $71 billion out of emerging non-China markets this year, roughly double the outflow of 2021, the MSCI Asia ex-Japan Index has fallen 20%.
Meanwhile, as investors price in an aggressive series of Federal Reserve moves to come, the dollar has been on a tear against global currencies. A stronger dollar generally is seen as representing a more dangerous investing environment, and correlating with less risk appetite on the part of investors. That in turn leads it to function as a negative measure for growth potential in emerging economies, many of which are based on imports that are priced in the currency.
Zhikai Chen, head of Asian equities at BNP Paribas Asset Management said, “The dollar is strengthening because there’s risk aversion rather than growth” which is “not a good mix” for Asian assets.
South Korea and Taiwan, both tech heavy Asian markets, look to be hit particularly hard, as recessionary headwinds combine with higher bond yields, to hurt both valuations and the demand outlook.
Overall so far, foreigners have net sold a combined $50 billion of their shares in the two nation’s markets, making stock benchmarks in those two nations among the worst performers in the region.
In less export-reliant markets, a stronger dollar versus a weaker local currency will draw down national balance sheets and company profits, due to corporate and sovereign borrowers having to pay more on dollar denominated debt.
In one of the largest oil importers, India, the rupee has collapsed to record lows, as current account and fiscal deficits have only grown. In Thailand, where the monetary authority has chosen to allow inflation to grow rather than intervene with tighter policy, there had been a large fall in the baht, making it one of the larger losers among emerging market currencies. Analysts fear if their currency continues to weaken, it will begin to threaten the resiliency their markets have shown so far in 2022.
Even Chinese stocks, which many analysts were bullish on in June as lockdowns lifted, have headed lower so far this month. One measure of shares in Hong Kong has dropped more than 9% as Covid has begun to reemerge, and China begins to see hints of banking and property crises emerging, alongside a fresh wave of regulatory action against Chinese tech firms.
Some analysts worry that when dealing with foreign investors, these small outflows can suddenly turn into a flood. Siddharth Singhai, chief investment officer at New York-based hedge fund Ironhold Capital said, “Foreign investors are very fickle. They tend to move in and out very quickly.”
Singhai notes that among the Asian sectors most affected by higher interest rates will be home building and construction stocks, given the degree to which demand is supported by loans.
So far this year, the Bloomberg JP Morgan Asia Dollar Index is down 6%, which would make it on course for the worst annual loss since the Asian financial crisis of 1997.
Analysts note some of the stocks which are down the most and potentially have the most upside would be Taiwanese telecoms and consumer staple stocks and Indian information technology stocks. Bigger Korean health care stocks, and Malaysian energy stocks have also historically been overperformers during similar periods when Asian currencies were depreciating, according to an analysis by BNP Paribas Securities last year.
Christina Woon, investment director for Asia equities at abrdn plc said, “From a flows and sentiment perspective, yes Asian stocks tend to underperform in the short term against a rising dollar… you can also find a number of beneficiaries, such as exporters, or companies that have more domestically focused tailwinds where a stronger dollar is less of an issue.”
