What is Your Best Bet?

Unless the market is falling fast enough then possibly we will still see some meat towards year-end. Else, you can effectively kiss good-bye to local equity. The present equity market conditions are the worst in 10 years. It won’t be long till average trading value hits below the RM1bn mark.

With complete absence of positive domestic market leads, rising likelihood of prolonged negative real consumption growth from second round prospective fuel price hikes, and fear of global stagflation, what is your best bet to find decent returns for your hard-earned money?

The KLCI fell more than 15% year-to-date, and significantly underperforming regional benchmark MSCI Far East ex-Japan. Now, it is a no-brainer for all houses to revise up their inflation projections. It’s a fair question to ask whether inflation is close to peaking as a number of emerging market yield curves are pricing for more rates tightening than central banks would be willing to deliver.

Possibly, by investing in high yielding foreign currencies deposit, like AUD, NZD and CAD may offer a better alternative compared to a pathetic 3.5% rate that local banks are offering. The upside, even if we take into account of possible rate hikes by Bank Negara in the next 12 months, remains insignificant compared to the mounting inflationary pressures.

The million dollar question for the months ahead is whether dollar strength and carry trade will persist much longer given how much re-pricing has already occurred in US rates market. I believe that the US money market had priced in unrealistic Fed tightening by year-end. Read PIMCO Paul McCulley’s ‘A Kind Word for Inflation’, which essentially argued that negative real short-term interest rates are here to stay for a considerable period!

I suspect the dollar’s bounce will give way to range and that the carry trade will succumb to fatigue. For choice, I avoid EUR/USD, GBP/USD and USD/JPY as the stagnating of these economies will drive their currencies not far in either direction.

And in the case of bonds, the only opportunity lies with a spread widening and carry position. As regional central banks are likely to deliver less than expectation and weak returns on bonds (developed government bonds returns are now 1% below cash) and the likely rise in supply in government papers by relying heavily on leveraged short-dated funding, Malaysian government included, I am long swap spreads. Overall spreads have come in mostly in fixed income and less in credit. For one, to get a decent return from spread widening at the long end, one should use leverage with long-dated funding. Inflation linkers have outperformed in most markets and I stay overweight.

As for commodities, I’ll go for momentum strategy, riding on volatility with a shortened duration. China cut oil subsidy, oil futures dropped and OPEC may raise production quotas, but I still firm with the long energy positions, but am reducing the overweight in the long-only version. This is because active investors are short of options and they still have to look for alpha to meet the decent returns on their hard-earned money after all.