Global trends to influence Asian financial assets

THERE are two global phenomena that we believe will influence the behaviour of Asian financial assets: central bank actions and low oil prices. Monetary policy adjustments could create moderate volatility for Asian fixed-income assets and currencies, while low oil prices will support Asian equities. Asian equities are also attractive given the variety of local economic and political conditions, which are constructive for effective diversification.

In 2015, central banks have regained their power to surprise. This is in contrast to 2014, when central banks' main duty was to provide visibility and guidance on the course of monetary policy. They were keen to avoid surprises, keen to increase the confidence in the financial sphere and be observably constructive for the global recovery that was just underway.

In terms of unexpected central bank actions, 2015 has already seen the European Central Bank beginning a one trillion euro (S$1.55 trillion) open-ended asset purchase programme designed to counter the deflationary forces in the eurozone that was unimaginable a year ago. A few days earlier, the Swiss National Bank had stunned markets by lifting its floor to allow the Swiss franc to float freely, which is a return to its traditional independence. The next possible surprise might be the US Federal Reserve finally lifting its official rates, currently at 0.25 per cent, an increasingly awkward level as the unemployment rate drifts under the 5 per cent mark. The Federal Reserve may move in the course of the second quarter of 2015, but the timing and pace of its future hikes remain uncertain. The expected negative impact on Asian currencies should be limited, as the US dollar has already rallied, well in advance of any hike. Against conventional wisdom, the volatility of most Asian currencies is much lower than euro volatility. The lower local inflation in Asian countries also gives central banks a margin and the ability to support their economies with accommodative monetary policies. We believe the strong US dollar will only translate into a mild weakness in Asian currencies with no Asia currency crisis expected and that the volatility created by expectations of higher US rates may raise opportunities to buy selected corporate bond names.

A prolonged period of lower energy prices will bring more opportunities than threats, and this should benefit both Asian economies and stock markets. Asian equities are overweight in our global asset allocation for the bank's private clients and our favourite markets are China and India, with diversification in Hong Kong, Japan, Indonesia, Taiwan and Singapore.

Lower oil prices are more driven by abundant supply than restraint in demand and the most visible positive demand shock will be felt in the US, as consumers (70 per cent of the economy) will be able to spend more, however Asian countries with positive net oil imports will also benefit. External demand stemming from the US and EU will also support exports from Asia. Lower oil prices will also translate into lower export prices for the US, Europe, Thailand and Singapore and, to a lesser extent, Australia and India, as well as allow governments, such as India and Indonesia, to pursue market reforms such as cutting fuel subsidies. This leads us to have higher-than-consensus 2015 growth forecasts and expect that world economic growth will reach 3.8 per cent, and emerging markets ex-Asia to see growth of 6 per cent.

Higher world trade and improved trade regionally in Asia can compensate for the slower pace of growth expected in China, although lower energy prices will also support the transition towards a more domestic Chinese economy, going hand in hand with the goals of policymakers. Increasing trade will also translate into higher earnings growth for regional firms in the consumer, IT and industrial sectors. Investing in Asia, however, requires discipline in diversification, and should include emerging market corporate bonds, such as those of the best Chinese energy companies.

Asia equity valuations, as measured by the price/earnings ratio with expected earnings for 2015 in countries such as China, Singapore, Indonesia and Thailand are of a similar magnitude equivalent to Europe (12 times), respectively at 11.1, 12.5, 12.7 and 12.2 and still far below the US (14.5) or Japanese (16.5) markets.

The world recovery is paved with macroeconomic risks, such as deflation in Europe, as well as more uncomfortable risks, such as renewed geopolitical tension between the West and Russia. If new tensions should occur, Asia will benefit from flows looking for safe havens. Out of necessity, institutional and private investors are progressively moving away from a pure domestic investment base. Investing in Asian assets can be used as insurance for investors looking for international diversification and Asia investors should be advised to diversify across the region to diffuse the volatility that will continue to be the dark side of the strong trends that are underway.