January may have been the best month for Emerging Markets (EM) in a long time but that doesn?t mean that the rest of the year will turn out to be equally rewarding for investors. EM equities, incidentally, clocked gains of 11.2% last month with China underperforming rally though the BRICs did well. EMs had underperformed badly last year and the easier monetary policies and falling inflation are helping to reverse the sentiment, especially in the BRICs. Even at the end of January, EMs were trading at a forward multiple of a shade under 10 times, a discount of 16% to developed markets (DMs). So far, it?s the liquidity sloshing around; following the ECB?s long term repurchase operations (LTRO) that has driven up markets. Given that another euro 500 billion or more of LTROs could be on their way, it wouldn?t be surprising if more money followed the $ 4 billion or so that has found its way into India so far this year. But as it has been so far, most of the money is likely to belong to ETFs rather than committed long term players. While valuations may still be attractive, for markets like India to attract serious money and trade at forward multiples of 15% for a sustained period, the economy needs to get back on track and companies need to come up with good numbers.
A few things have gone India?s way; India?s trade exposure to the euro zone is smaller than that of many other EMs and also the risk of deleveraging by euro banks may not be as high as earlier anticipated. Comfort levels on foreign debt exposure have gone up significantly after the sharp bounce back in the rupee; the rupee at below 50 to the dollar, compared with 53 levels not so long ago, has taken the pressure off corporate balance sheets.
As for banks, Citigroup points out that India accounts for about 4% of EU bank exposure to EMs. Not that India can be complacent when the euro zone is heading for a recession and data from China is weak: Exports in China fell 0.5% y-o-y in January, the first drop in more than two years as did imports by a lower-than -expected 15%. It?s not all due to the festive season, say analysts, raising concerns about whether the weakness in the European economies would cause growth in China will decelerate further given that bilateral trade between China and the European Union fell 7% in January.
But the bigger worries are back home: While the mood is distinctly more upbeat than it was even a month ago, there?s not too much evidence on the ground to suggest a quick recovery. Factory output grew at just 1.8% in December with the capital goods piece contracting 16.5% y-o-y and exports up just 6.7%, but the encouraging data for January?the big jump in both manufacturing and services HSBC PMI?has raised hopes that the worst may be over. Production of consumer goods, for instance while slowing is nonetheless holding up. Not that anyone is expecting a V shaped recovery at a time when the price of crude oil is at $117 to the dollar.
Corporate results for the December quarter suggest there could be some earnings downgrades; for a clutch of 1,642 companies, net profits have fallen 4.5% y-o-y with operating margins having dropped off by 325 basis points y-o-y. So while it may seem from the spectacular rally in the market that profits are going to grow at a faster pace from now on, it may not be so. Hopefully it won?t be another ?sell in May and go away year?.