The fools are alive with the sound of tapering. There’s a constant drone of the CNBC crowd that the fear of Fed tapering has sent emerging markets to nine straight days of losses. While the emerging markets have been responding negatively to tapering, the developed markets have been making new highs. So it seems that the FED removing liquidity will be far more detrimental to the emerging markets than to the developed world’s equity markets. A quick snapshot of the tales of two markets reveals the divergence taking place in the global financial markets. The Mexican ETF EWW is down 12% on the year while the S&Ps are up 27%. Yet, the Mexican economy is heavy dependent on the U.S. market for a large percentage of its exports. If the U.S. consumer is healthy enough to help the U.S. equities to a solid gain on corporate profits, how can the Mexican financial markets be so negatively divergent? It is not only the issue of economic growth but also the health of the overall financial system.
The U.S. DEBT-TO-GDP RATIO in the U.S. is approaching 90 percent while in Mexico (left) the ratio is a lower at 40 percent. In Mexico the cost of financing its debt is steady while in the U.S. the burden of a high debt-to-GDP ratio will rise as interest rates increase. How long can markets diverge when faced with similar systemic concerns? To add further confusion, the emerging market currencies have fallen in value in response to tapering as U.S. interest rates are expected to rise. Yet in another blow to efficient market theory the euro currency (right), which is under the threat of a deflationary spiral, rallies in the face of new concerns about tapering. Again, more questions than answers. But if the U.S. equity rally is predicated on belief of an improved growth picture, emerging markets must be wildly undervalued. AGAIN, MANY QUESTIONS.
***The newest rage in Europe is to blame the Germans for the continued lethargic EU economy. It is German intransigence on a full-scale single bank supervisor and a single resolution authority. The Germans are accused of being mercantilists and promoting the German export machine, thus stifling German-based consumer demand. The German blame game will continue as long as Berlin continues to push for fiscal austerity as the price for supporting bank and sovereign “bailouts.” In an interesting turn of events, Chancellor Merkel’s potential coalition partners, the SPD and the CSU, have put forward the idea of holding REFERENDUMS to get a sense of the German electorate on issues of substance in regards to the European Union. The three main points of contention for the CSU and SPD are:
- Allowing new countries to enter the union;
- Transferring power from Berlin to Brussels; and
- When Berlin”commits large amounts of new money to the EU.”
While the issue of referendums may be a ploy to bargain for important issues within the coalition, the issue of polling the electorate is a new wrinkle in the fabric of European political and economic intrigue. It never ends.