Chinese Numbers to Spread Chill

11/29/2010 2:08 pm EST

Focus: GLOBAL

Prieur du Plessis

Author, Investment Postcards from Cape Town

Emerging markets are headed for a further shakeout as the developed economies sputter and China slows, writes Prieur du Plessis of Investment Postcards from Cape Town.

After the nascent correction, most major global indices are within striking distance of their 50-day moving averages. As a matter of fact, emerging-market indices such as the Shanghai Composite, the Bombay Sensex, and the Brazilian Bovespa have already breached the 50-day lines. However, all of them are still trading above their key 200-day moving average—often used as an indicator of the primary trend.

Emerging-market equities and bonds are somewhat overpriced and a healthy market correction is needed to pull them back to realistic levels compared to mature markets.

The longer-term outlook for investment markets in emerging economies is cloudy and becoming increasingly uncertain. Despite the Federal Reserve's bond purchases I see no quick fix to substantially boost consumer sentiment in the US, especially in light of the absence of new fixed investment given the significant surplus capacity, severe problems in the housing market and the inelasticity of job creation to stimulatory measures.

Furthermore, global demand is likely to remain under pressure. I expect demand in the Eurozone to be lethargic, especially in light of the fiscal crisis in the PIIGS [Portugal, Ireland, Italy, Greece, and Spain—Editor], Japan running the risk of returning to a recession, and emerging economies and China in particular reining in their economies by hiking interest rates.

I do not see emerging-market economies tanking, but in my opinion the short-term risk of investing in emerging markets has increased significantly.

Metals, Freight Rates Tell the Tale

The upward trend in metals prices since the market bottomed in the first quarter of last year is currently being challenged. The marked drop in metal prices, especially those of aluminum and nickel, was also echoed by very weak steel and stainless steel prices.

Bulk shipping rates such as the Baltic Dry Index are in a free fall, while Chinese containerized freight indices continue to head south, with downward momentum on the US West Coast route accelerating.

The decline in non-US dollar metal prices together with declines in bulk and containerized shipping rates are proof of a sudden weakening of global demand. The manufacturing surveys for November to be released this week are likely to disappoint on the downside. I am still very concerned about how markets will react when China's non-manufacturing purchasing managers' index is released by the end of the week. If the seasonal trend over the past two years holds true the number is likely to indicate contraction in China's services sectors.

I therefore expect volatility to increase in most financial markets over the next two weeks.

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