Country Updates

For the month ending June 2010

China/Hong Kong

Chinese stocks showed mixed performance in June. While Hong Kong-listed stocks rebounded from last month's sharp decline, domestically listed stocks continued their slide and ended the month at the lowest level in more than a year. During the month, the MSCI China Index rose 1.27%, Hong Kong’s Hang Seng Index gained 2.19% and China’s domestic A share index dropped –6.55%. China's currency, the renminbi (RMB), appreciated against the U.S. dollar and ended the month at 6.78RMB/USD.

China's central bank announced during the month that it would continue to reform the currency exchange rate and aim to enhance flexibility. A daily trading price of the U.S. dollar against the RMB in the interbank foreign exchange market will be allowed to float within a narrow band. Although the central bank emphasized that it would be a two-way fluctuation against a basket of currencies, the announcement was generally considered positive to Hong Kong-listed companies that have operations in China.

The recent economic data indicates that the growth of industrial production and GDP may start to moderate. Industrial production in May grew 16.5%, compared to 17.8% in April. The Purchasing Manager Index, an indicator for economic activity, declined in both June and July. As the government is unlikely to change its tightening measures on credit lending and asset speculation, the country’s economic growth may continue to slow in the coming months.

China's retail sales grew 18.7% in May, compared to 18.5% in April and the consumer price index rose slightly from 2.8% in April to 3.1% in May. Exports expanded 48.5% in May, while imports rose 48.3%. To stimulate domestic consumption and narrow income disparity, Beijing, Shanghai, Henan, Guangdong along with several provinces and municipalities have raised minimum wages within their respective jurisdictions.

India

The Bombay Stock Exchange 100 Index rose by 4.64% in June amid high foreign inflows. Foreign Institutional Investor (FII) inflows for June were US$2.3 billion, compared to a US$2.0 billion outflow in the previous month. The more strategic Foreign Direct Investor (FDI) inflows were also strong at US$2.1 billion in May. Year-to-date, FDI inflows have been higher at US$9.3 billion than FII’s inflows of US$6.9 billion, signifying FDI’s increasing influence on Indian currency. One driver of FDI has been a pickup in cross-border M&A by multinationals in acquiring their local subsidiaries or other Indian companies, suggesting increased conviction in India’s long-term potential. At the same time, Indian firms have also started to bid for overseas targets to achieve their global ambition, which indicates stronger balance sheets and a revival of capital markets.

During the month, the government introduced some unprecedented reforms aimed at improving the country’s fiscal health and deepening its capital markets. It has scrapped its subsidy of petrol prices in an effort to reduce the fiscal deficit, with targets to bring it down from 6.6% in 2009, to 5.5% by the end of this year. Diesel prices have been raised in line with a previous hike in liquid petroleum gas prices, and could be deregulated soon. Although the decontrol measures may increase the cost of living and doing business in the short run, they could also free up more capital for the private sector and infrastructure investments. The move could also encourage private sector refiners to sell their products in India instead of exporting them, and revive their hitherto unprofitable retail networks in India. On the capital markets front, the government has mandated a minimum of 25% public float for all listed companies, aiming at deeper and more liquid markets, which could also improve public finances by divesture from many state-owned enterprises.

Japan

The Tokyo Stock Price Index (TOPIX) fell –1.68% in U.S. dollar terms during the month of June. This was significantly better than the –5.39% decline in the S&P 500 Index, but was mainly supported by a 3.20% rally in the yen. Equity markets have reacted negatively to signs of slower growth in both developed markets as well as in China. Amid this environment, the yen has strengthened, especially in relation to the euro, where it reached nine-year highs.

Sector performance clearly reflected weakened investor confidence as defensive sectors, such as pharmaceuticals and utilities, outperformed. Meanwhile economically sensitive sectors, such as financials and commodities, underperformed significantly. The appreciation of the yen also undermined returns in the export-heavy technology sector. Share prices of companies with high exposure to the euro have weakened considerably in past months as investors discount the possibility of downgrades in upcoming quarterly earnings forecasts.

After the abrupt resignation of Prime Minister Yukio Hatoyama, Finance Minister Naoto Kan was sworn in, becoming Japan’s fifth prime minister in less than five years. Support for the ruling Democratic Party of Japan (DPJ) improved significantly after Prime Minister Kan took office but that quickly subsided after he suggested doubling the consumption tax from 5% to 10%. Although Japan is in desperate need of higher tax revenues to reduce the fiscal deficit, the consumption tax hike has proven quite unpopular as it is often portrayed in the media as a tax on the poor. The DPJ faces an uphill battle as Upper House elections are scheduled for July 11.

Korea

During the month, the Korea Composite Stock Price Index (KOSPI) appreciated 3.47%, the Korea Securities Dealers Automated Quotation (KOSDAQ) remained largely unchanged (-0.11%) and the Korean won fell about 1.6% against the U.S. dollar.

Though concerns over the developed economies have increased volatility in Korea’s currency market, both the consumer sentiment index and business survey index showed positive views on the economy. Additionally, overall trade data released in June showed strong growth in exports (+35%) and imports (+40%) compared to a year ago. Exports to both developed and emerging economies showed strong growth, with semiconductors and autos leading this increase.

On June 13, the Korean government issued a measure to limit holdings of currency derivatives at banks in order to stabilize volatility in the foreign exchange market. The measure, reported as “currency control” by foreign media, appears to be trying to limit speculative capital inflow to the Korean bond market and hedging against the Korean won. Among the main causes of volatility in the foreign exchange market during the recent global financial crisis were so called “carry trades.” New regulations now require Korean banks and foreign bank branches to limit derivative holdings to try to curb volatility.

The impact on exporters and importers from the measure seems limited as Korean banks—the main providers of hedging products to corporations—already meet regulator guidelines for foreign exchange derivative holdings.

June 2010

The views and information discussed in this article are as of the date of publication, are subject to change and may not reflect the writer's current views. The views expressed represent an assessment of market conditions at a specific point in time, are opinions only and should not be relied upon as investment advice regarding a particular investment or markets in general. Such information does not constitute a recommendation to buy or sell specific securities or investments vehicles.