Friday, October 14, 2011

Why do Stocks Keep Going Up?

Um, why are the stock markets rallying so much this week? I understand that Europe seems to be reaching a bailout agreement, but has anything changed here in the US? Last I checked, we still had high unemployment, non-existent wage growth, and no job creation to even sniff at. And yet, for some reason, since the US government's debt outlook was lowered on August 5th, US Treasury bonds have rallied and the S&P is roughly flat, while emerging markets--the engines behind global growth and job creation--have faltered. I'm seeing Russia down 25%, Brazil and India down 15%, and China down 10%. Looks like a flight to safety still seeks US debt, even when the US is headed the way of my last dump.

These sell-offs are great for anyone willing to take the risk of EM equities. I'll focus on India for the time being, as that is my trade. Exactly nothing in India has changed since August 5th, save for a moderation of inflation expectations. GDP looks on pace to post another 6.5% or 7.0% real growth for FY12 (that's March '11 to March '12). High-quality companies in the BSE-30 continue to prudently manage risk and generate annual earnings growth in excess of 20%. And India remains nicely de-coupled from the global economy, with only 18% of GDP being linked to exports (compare to China and Korea, where 30% and 50% of GDP is export-linked, respectively). So the quick story--an economy that is growing at 7% on an inflation-adjusted basis (and has grown at above 6% per year for the last 30 years), with plenty of companies armed with the talent and skill to translate that growth to the bottom line, in a country where the lion's share of the growth is domestically driven by the hundreds of millions of people earning higher wages and consuming more goods. What's not to like?

When the flight to safety occurs, India will always suffer. See: Sept. 15, 2008, when Lehman Brothers went belly-up. India's stock market fell 55% in the five weeks following Lehman. Again, what changed in India? The houses that US consumers were no longer buying--were any of those materials produced by India? No. The goods that US consumers stopped consuming--were any of those goods produced in India? No. But because India is viewed as risky, and the entire financial world needed to de-leverage and de-risk, India took the beating. If you had been smart, you invested in India in November, 2008, when the entire world said not to, and doubled your money. When the inevitable sovereign default or bank failure happens in the future, India will take the hit, and I'd advise you to buy it up. But hey, that's just me.

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