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emerging markets




Jeremy Grantham's latest quarterly letter arrives and as usual it is chock full of insight. Grantham touches on every single financial theme we've discussed recently: valuation, inflation/deflation, Fed's role in blowing bubbles, gold, commodities, bonds, etc.

While Grantham is worried about valuations in equities he is holding the course and continuing to recommend high quality US stocks. This is mainly due to the presidential cycle. He points out that in the past 19 cycles, the third year (2011) of the cycle has never been touched by a bear market and only once provided a negative return (-2%). Volatile stocks do especially well in this period, having outperformed lesser volatile stocks by 18% p.a. (since 1964).

Grantham is continuing to be optimistic about emerging markets, even though he sees them developing into a bubble eventually. But he is staying away from bonds, seeing them as manipulated and dangerous in a 'mean reverting world'.

When it comes to commodities and gold, Grantham prefers the former believing the latter to be one step removed from the large rocks that sit on Polynesian islands and are considered legal tender.

Finally, Grantham is unmoved by the vituperative response he has received for calling the Australian real estate market a bubble. He is not sure when the 'ref will blow the whistle' but he is adamant that it is a bubble and it can't continue.

For more, see the complete letter below:

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As an addendum to yesterday's weekly sentiment overview, here is a bit more detail from Lipper FMI regarding US fund flows. There are only several sources for fund flow information and they each report slightly different statistics based on their methodology and thoroughness. But they all are estimates and with a few stragglers remaining yet to report, this is a preliminary report for the third quarter of 2010.

As we've already detailed numerous times, the same thesis remained in effect these past three months. US investors have left equity mutual funds in droves for the past few years for the perceived safety of bonds. That trend continued in the third quarter with taxable bond funds receiving inflows of $57.3 billion and municipal bond funds an inflow of $11.3 billion. Meanwhile there were outflows of $22.9 billion from Lipper's US diversified equity category. US mutual fund investors have been ambivalent about global equities adding just $300 million in the three months from July-September 2010.

Q3 fund flows Lipper Oct 2010

But if we include ETF fund flow data, the picture is slightly less gloomy. According to Lipper FMI, US investors added $4.2 billion to US domestic equity ETFs and a whopping $11.3 billion to global equity ETFs. The fixed income thesis remains intact with an additional $7.4 billion being directed to the sector via ETFs.

Focusing in on the equity flows, US large caps were the least favored hemorrhaging $15.1 billion. In contrast, emerging markets received $6.6 billion providing some fodder for Grantham's (and other's) concerns about a potential bubble developing in emerging markets such as Brazil, India, China, etc. But it just may be that investors are going where the returns are. Case in point, commodity oriented funds had inflows of $1.3 billion. And interestingly enough there is enough pessimism (or portfolio hedding) for $700 million being directed to dedicated short mutual funds.
Continue reading 'Third Quarter (2010) Fund Flow Report'

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The dichotomy between fast emerging markets, like Brazil, and mature markets like the US is quite clear. We've looked at the growing chasm both from an economic as well as stock market point of view.

Here's a short video outlining the strength of the Brazilian market through the Brazil iShares ETF (EWZ):

Look at the actual Brazilian stock market index, the Bovespa, shows us an even stronger picture. The Bovespa is trading at 68206 as of this week's close. The iShares ETF is about 18% off its 2007 highs while the Bovespa is only off 7%. One of the most important characteristics of a market is relative strength. It is always profitable to keep an eye on the strongest market and the strongest sector and stock groups within that market.

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That giant sucking sound you hear in the background is the emerging economies vacuuming up all the cash from developed economies. Nothing shows it quite as clearly or as strikingly as the following map:

Global Money flows
Source: Wikipedia

The map shows each country by gold and foreign currency reserves minus external debt. It is based on 2009 data from the CIA Factbook (click chart for a much larger version in a new tab).

Europe and the US are deep red while emerging economies like China, Brazil and Saudi Arabia are green. I was surprised to see Japan not in the red. But the other developed countries such as Norway, Canada and Australia were orange. No surprise there as these countries have benefited from the secular bull market in commodities.

Just recently BHP Billiton (an Australian conglomerate) launched a hostile bid for Potash (one of Canada's largest public corporations). The bid was quickly rejected but BHP hasn't given up.

In any case, these two themes; secular bull in commodities and emerging markets overtaking developed ones, are broad strokes that don't affect the markets within a short period of time. But make no mistake, such slow moving trends have staying power and they will remake the global financial landscape before they are done.

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Global Equity Macromap

I love the art of data visualization so whenever I find a good example I can't help but enjoy not just the accessibility that it provides to a set of complex data but the aesthetic quality of the image. Here's a macromap of major global equity markets for the past year:

Click for larger image in a new tab:
global equity macromap 1 year Jul 2010
Source: ft.com/marketsdata

A cursory look shows the dichotomy between emerging vs. developed markets - with the exception of China, of course. Europe has ben surprisingly resilient with Spain being the weakest with its heavily bank weighted index giving it a single digit return. The bulls will be comforted to know that the year-long bull market had broad participation across the globe. The bears will remain skeptical pointing to the fact that world stock markets have been getting more and more correlated with each passing year.

Anyway, FT's macromap is almost as engrossing as the New York Times sector snapshot which I wrote about a few years ago. If you haven't explored it yet, check out FT's data sub-section, it is chock full of charts for equities, bonds, currencies and more.

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