Evercore Pan Asset

Now we know what a second round of quantitative easing will do. The more the US briefs that it intends to print more dollars, the more money flees into gold, other commodities, and in to emerging markets. The more the west signals its economic weakness, the more attractive the east seems. The more the big players try to talk down their currencies, the more investors believe them and move the money elsewhere.

The Finance Ministers at the G20 preparatory meeting over the week-end of October 23^rd managed to stitch together a communiqué which did not frighten the markets. Recognising that something has to give in an unstable world, they hinted that in future countries will examine their balance of payments and seek to make some adjustment to their currencies according to its strength or weakness. The implication was that the Chinese, Brazilian and Indian currencies for example will be allowed to drift gently upwards whilst the dollar and the pound will drift down. The Euro remains a problem. Its southern members want to belong to the dollar club, enjoying devaluation to ease the strain. The Germans prefer to be with the stronger currencies, as they are competitive at current levels and have a healthy surplus.

A little of this has already happened. The renminbi has risen from 6.84 to the US dollar in June to 6.66 in mid October. Money is pouring into emerging markets, where governments are nervously discussing tax increases or physical controls to try to stem the flows. Meanwhile, the dollar drifts down and the US authorities offer inflation linked bonds at a negative interest rate. Willing buyers gratefully take them, as fears of US future inflation mount in the investment community. Some say that the emerging markets are now into bubble territory. All the time there are surplus investment dollars some of those will find their way east. If there is a new bubble around, it is more likely to prove to be in western sovereign bonds, where previous money printing has pushed yields down to very low levels by historical standards. Some more inflation, partly brought on by the escalation of prices the quantitative easing is causing in commodity and emerging market economies makes those bond yields look even less attractive on anything other than a short term view.

There may be more arguments ahead over what is a fair currency rate for the dollar or the renminbi. There could well be more stresses ahead for the Euro, seeking to straddle very differently performing economies under its single mantle. There will be moods of gloom, that the tensions will prove too much, and moods of euphoria, bulled up by easy money. I think it still makes sense to have good exposure to the emerging markets. It is true the prices have climbed a lot, and the value is not as good as a year ago. India and China are both having to brake the hectic pace of their advance, as inflation is a problem.  In their favour is the fact that so many western funds have ignored them for too long and now need some additional exposure. Also in their favour is the solid industrial and commercial success and the fast growth, which may still not be fully reflected in the relative values of emerging market and advanced country equity.

The colossal industrial achievement is on display in so many UK and US shops if you inspect the country of origin labels. It is manifested in the large balance of payments surpluses being heaped up in the successful exporting economies, and in the large deficits still being run by the importers. The large imbalances which lay behind the Credit Crunch are still with us. There are limits to how much any country can pay for by simply printing new money. Some time the borrowers have to borrow less and repay some of the borrowings. This will prove to be a long and difficult process for many western countries.

 As published in Investment Week