Saturday, June 16, 2012

Are Stocks Under Performing the Index? Case Study - Indonesia

There is always a belief that by holding Defensive Stocks or Blue Chips will enable you to weather the storm during a Financial Crisis. What we will do now is to build a case on whether holding on to stocks will outperform the Market Index. To do this we will use the Global Financial Crisis in 2008 as a backdrop in our study. We will be using the Jakarta Stock Exchange as a Case Study our study will be based on the following assumptions.

  1. Period of comparison is from the 2007 High to Current value.
  2. Stocks in study will be the 10 largest listed companies in the JSX as of 2010
  3. Stock  split and bonus are taken into account

Our mission will be to compute the performance of the top 10 index linked companies in the Jakarta Stock Exchange. As indicated by Index linked stocks, we mean that the performance of those stocks in question will be closely linked to the movement of the Jakarta Composite Index.

How do we compute the Index performance?

What we will do is to get the high of the JCI during 2007 which was set on 12th December 2007 which is 2818 points and the current (15/06/2012) level of the Index which is at 3818 points. The reason for using the High of 2007 is because we want to find out how much the current Index level had improved since then. Below is the monthly chart for the Jakarta Composite Index. To compute the performance of the Index we will use the following formula.

(Current Level-Previous Level/Previous level) x 100

Which will lead us to the following.  (3818-2818/2818) x 100 = 35.5%

That means that the Jakarta Composite Index have recovered from the high of 2007 and managed to outperformed it by 35.5%. So obviously when we want to measure the performance of individual stocks, it must outperform the index by at least 35.5% since we are using index linked stocks where their performance is ‘closely hugged’ to the movement of the Index. That means if there is a 5% gain in the index for a given year, the index linked Stocks should be up by at least 5%  if they are to outperform the index.

Table for Stock Performance from 2007 – 2012

Top 10 largest listed Companies in Indonesia as of 2010
               AB = A x 35.5%              CD= (B-C)/B x 100Return on the
RankingCompany1997 High1997 High x 135.5%Current PricePerformance  %1000 Rp Invested
Telekom Indonesia
Bank Central Asia
Bank Mandiri
Bank Rakyat Indonesia
Bank Negara Indonesia
Bumi Resources
Bank Danamon
Perusahan Gas Negara
Semen Gresik
Bukit Asam
Net Return Performance


Index Linked Stocks Under-Performed the Index

As you can see from the above Table, if you have invested Rp1000 on the above 10 counters during Dec 2007, the return you will get on 15/06/2012 is – 19.1%. Your total investment of Rp10000 will only yield Rp8090 which is a loss of Rp1910. So what we can conclude is that even though the index went up by 35.5% but the index linked stocks still UNDER-PERFORMED the INDEX throughout that period.

Compare to other Investments?

So how about other alternative investments? One of the best comparisons will be the Money Market fund. By Money Market we mean funds that are park at Stock Market accounts in Broking Firms. Indonesian money market pays pretty well and it can be in the vicinity of 9-10%. Ciptadana Sekuritas used to pay about 9% per annum for their Money Market account until the Indonesian Government stop Broking firms from accepting deposits recently.

Again using our same Rp10000 as the base investment so how much better would it compared to stock market investment from the time period in 2007 till 2012? To calculate the future returns on the present value of RP10000 we will use the following formula.

FV = PV(1+i)t  where

FV = Future Value
PV = Present Value
I     = Interest rate – 9%
T     = time period – 5 in this case

So the FV = 10000(1+0.09)5 = Rp15386.24

Hence, we can deduce that during that period of analysis in Indonesia, the Money Market return (Rp15386.24) is better than the Stock Market return (Rp8090).

Why is this so?

The following offers some explanation on why Stocks tends to Under perform the Market Index.

Firstly, new stocks are added every year through IPO. At the meantime old stocks that are not performing or went into bankruptcy are delisted from the exchange. There are more new stocks added to the list than being taken out and hence the list of stocks grows every year. The Darwinian Law on survival of the fittest also applies to the stock market. Hence every year bad and poorly performed stocks are taken out of the list and new and healthy ones are added to the list.

If you look back at the records of Dow Jones for the last 100 years, less than 3% of the stocks managed to maintain their original name. For the past 50 years only less than 10% managed to do that. What does this tells us? A lot of the companies did not survive intact throughout the years, many of them either delisted, gone during a Merger, Acquisition or being Takeover exercise. And again along the way many new stocks are added while old ones are pushed out from the list.

This is one of the main reason why the stock market is always going up.

Secondly, the Composite Index is made up of only a handful of Stocks. Like the Dow is made up of 30 stocks, Malaysia's KLCI has 30 and so on. Normally these stocks have large market capitalization and hence also their weightage on the Index. Again it is the same old story, ‘not performing or tired’ stocks are taken out of the group and new ones are added into it. So this can be regarded as cheating and they can do continue doing this as long as the index keep going up.

This is also similar to Hedge Funds when they apply survivorship bias in their reporting. Since they are not under the jurisdiction of the Securities Exchange they are not required to report to them. In other words, they are free to cook their books. Under perform quarterly figures are discarded from their annual reporting and hence their reporting is always better than their actual performance.

So why do they want the market to go up? In my earlier article I mentioned that an overvalued market benefit everyone from the stock brokers to the politicians. Only us suckers got squeezed in the end because when the music stops, we are the ones will be the last to leave the party.

Thirdly, we only have ourselves to be blamed. Due to the propaganda by the market promoters and propagandist from the corporate mainstream media we are more or less afflicted with a disease called ‘Normalcy Bias’.

Normalcy Bias refers to a situation where the mental state of the people failed to estimate the possibility and effects of a disaster that is looming. When facing a stock market crash instead of taking evasive action to cut loss we tend to focus on the unexpected event and enter into a state of paralysis. It is normal for investors to be overwhelmed by losses and hence failed to do the right thing and that is to get out of the market. This is because we are constantly fed with ‘good and soothing’ stories by the mainstream media and condition our mind to accept that things are always in good hands and order. Consider the following quote,

"The man who never looks into a newspaper is better informed than he who reads them; in as much as he who knows nothing is nearer to the truth than he whose mind is filled with falsehoods and errors." – Thomas Jefferson

Where is the Problem?

The main problem is OURSELF. Why? Because we did not bother to TIME the market because we always believed that the market will always deliver and hence let nature takes its course. In other words we didn’t sell when the market says SELL and we just hang on with the Investments. When the next Downturn comes around, you will find that not only your gains will be wipe out but worse still it will result in a negative return on your capital as shown by our example above. So we must learn to TIME the market. Sell when you need to and buy back later at an appropriate price.

As for an illustration we shall take Telekom Indonesia as an example. The following is the weekly chart for the Telekom Indonesia from the period 2007 – 2012.

I have already  marked the BUY signal using the Green circles and SELL signals using the RED circles. As you can see from the chart there are three different opportunities for you to greatly increase your return by selling when the price goes above the 70% line in the RSI and buy when it goes below the 30% line in the RSI.

This represents only one of the simpler method you can trade the market, however as you go along you will find that you need much more complex tools to study the market more professionally. Eventually you will need to understand support and resistance, rebounds and declines percentages, pivot points, market turning indicators, time series and many more if you want to improve your trading techniques.

Trading in markets is never an easy task as many perceived, you need to put in a lot of effort and you need sweat blood over your analysis. It is not like launching a ‘fire and forget’ Exocet missile because in financial markets there is nothing such as ‘buy and forget’ kind of strategy. You will need to manage, monitor and also rebalances your portfolio every now and then.

As for myself, I am monitoring over 17 Global Stock Exchanges and 2 Futures Exchanges and spend many hours in reading apart from writing more than 20 articles a month. This is because due to the nature of financial markets which is affected by tens if not hundreds of variable and ‘Change is the only Constant’, we need to constantly update ourselves. This is also due to the fact that financial markets today are more closely linked to world events than before. A drop of 500 points in the Dow overnight will surely affects Asian Markets when they open the next morning and similarly a huge drop in corn prices in the Futures Market will surely affect American corn farmers in the days and weeks ahead.

Currently we had started using Spectral Analysis where its approach to the market is similar to Fourier Transform. Geologists have long been using Spectral Analysis to analyse data from their oil drilling operations with great accuracy. Fourier Transform is also being used to analyze vibrations in aircraft wings by studying the pattern of its Sine wave.

Both of them can be used to study the Stock Market's Sine Wave movement to determine actual entry and exit points. The advantage of using Spectral Analysis in analyzing Financial Markets is that it needs less data to achieve better accuracy and results. So that means we can use Spectral Analysis for stocks that have less than 3 years of historical data.  

It is known that movements in most Financial Markets mimics the Sine Wave with peaks and valley quite evenly distributed. So our next objective is to use the correct tools to help us identify the ‘Soft Spots’ in these peaks and valley that will greatly improve our timing in the entry and exit points. Identifying these soft spots is akin to Tennis Players trying to hit the ball on the soft spots (located at the center of the racket) in their racquets. These peaks and valley are our soft spots for entry and exit points in the markets. It can be shown by the following.

Eventually the ultimate aim for any Stock Market Trader is to reach a Trading Mastery level where we call it the ‘ZEN of TRADING’. When you had reached such a level you are able to approach the Stock Market with a peaceful and tranquil mental state. You are able to predict Financial Market movements with great accuracy.

Wednesday, June 13, 2012

Are Financial Markets in the Calm before the Storm?

With the announcement of a bailout package for Spain in the vicinity of $125 billion over the weekend, authorities in Europe hoped it will help to buy more time with the aid of an engineered rebound in the stock markets. However, the so called rebound is short lived and it fizzles out after a couple of hours of trading as investors viewed the bailout package as another ‘Band Aid’ solution to the problem.

The Spanish IBEX was up by about 5.6% at one time and when the euphoria fizzles out, it closed down -0.54%, Italian market was also down 2.74%, FTSE which was up by 100 points also closed down 2.74 points. So why the $125 billion bailout package only managed to buy 2 hours of relief? We believe the following might be the reasons.

  1. The actual problem of the crisis is not addressed. Europe is facing a credit crunch and you can’t solve a Sovereign Debt Crisis by pumping more liquidity into the system. It will only provide a temporary relief to the problem and hence buy more time. People are getting nervous as policies after policies dished out by the authorities doesn’t seem to work. After two years down the road, when Greece got its first bailout money, its problem seems to get worse. Subsequent bailouts don’t seem to have any more effect on the Greek economy. People wants to see more solid restructuring and brutal austerity measure like how the IMF imposed on some Asian countries during the Asian Financial Crisis in 1998. In short there are not even a single Eurozone countries are serious about practicing real austerity. Another funny thing is that the current bailout package for Spain does not come with any austerity measures and hence it will lead to Ireland, Portugal and Greece demanding for a renegotiation on the term of their bailout packages.
  2. Due to the inability of the ECB to solve the crisis, it led to a loss of confidence among the citizens in the Eurozone. There have been reported bank runs in Greece and Spain. Instead of keeping money in the bank Greek citizens are withdrawing money from banks and keep it at home and saying that it is ‘safer than putting it in the banks’. Due to the upcoming of the Greek elections on June 17, according to a Bloomberg report ‘deposits are leaving the banks at the rate of about 100 to 500 million Euros a day’ because there is a panic in the street that if Greece were to exit Eurozone then there will be a devaluation in the drachma. Spain is not much better when Spanish depositors withdraw more the 65 billion Euros in March alone from its banking system. Due to its unregulated banking system during the booming years, more than 50% of its loans are given out to unqualified borrowers also known as sub-prime in the US.
  3. The contagion has spread to Cyprus. Spain’s bailout actually sets a precedent for future bailouts in the Eurozone. Cyprus after seeing Spain’s bailout without any austerity measures also make known its intention to be the fifth nation in the Eurozone to receive a bailout. It is reported that Cyprus are already taking the necessary steps for making an application for a bailout before it takes over the European Union presidency in July. Due to the mark down of the value of its Greek bond holdings, two of Cyprus biggest lenders namely Bank of Cyprus and Cyprus Popular Bank needs more fund to recapitalize its position. Moreover the biggest fear will be Italy which is already ‘at the edge’. Italy which is the third largest economy in the Eurozone, is reportedly close to being requesting for a bailout. Austrian Finance Minister Maria Fekter said on Monday that ‘Italy may have to work its way out of the economic dilemma of very high deficits and debts and it too may need support’. The following is the Pie Chart of the GDP distribution of the Eurozone countries.

  1. Eurozone Bond yields are hitting highs. After Merkel’s comment on delaying the possibility of issuing Eurobonds, Spanish 10 year Bond yields sky rocketed to an ERA High of more than 6.8% and meanwhile Italy’s 10 year Bond yield also climbed to 6.22%. This is because investors also concerned that the bailout package might lead to a full scale international bailout in the near future. Despite several tranches of funds injected into the Greek economy, it effects seems vaporized. Investors also feared that Spain might follow the footsteps of Greece where multiple tranches of funds will be needed in the near future.
  2. There are concerns about where is the bailout money coming from. Will it be coming from the IMF or the going to be establish ESM? There are also worries that the reserve funds in IMF which only totaled $440 billion will not be sufficient to accommodate Spain's $1.5 trillion economy in the future. According to JPMorgan Spain will eventually need between $350-$450 billion for a full bailout. Since the nature of this bailout is a banking bailout and not a sovereign bailout, its fund will be used specifically for the banking sector and the public at large will not be able to benefit from it. 

In conclusion, we foresee there are no known solutions to the Eurozone Sovereign Debt problems in sight. Bailing out is not a solution to the problem but only provide temporary relief to calm markets. Until there are efforts by Eurozone countries to really impose austerity measures as proposed by the IMF and ECB, the problem will not somehow be solved. Nobody is making any effort to ‘Balance their Budget, letting weaker countries to go bankrupt, raising interest rates to flush out weaker economies’ or in other words, nobody is serious about doing anything to help contain the crisis.

In fact what we are seeing in the near future will be more countries joining the bailout bandwagon. In fact we believe that the Financial Markets are now in the calm before the storm. Things will get ugly when larger economies like Italy and France will be the next dominoes to fall. Then there will be panic in the financial markets. Will the next be Cyprus and then Italy and then Belgium, and then France and then Germany?

Saturday, June 9, 2012

China's String of Pearls Strategy for 21st Century

Thailand's Kra Isthmus

The Kra Isthmus and China’s String of Pearls strategy for 21st Century and beyond.
A geopolitical perspective……..

The Kra Isthmus is a narrow land bridge that connects Malaysia to Mainland Asia or the Devil’s Neck as it is sometimes referred to. There are two countries sharing this piece of land, with Thailand on the West and Myanmar on the East . This is the part that separates the Indian Ocean on the West and South China Sea on the East. So what’s so special about this piece of real estate?  The narrowest part of the Kra Isthmus is 44 km and the height is 75m above sea level.

Currently if ships from the Middle East were to go to China it had to pass through the Straits of Malacca. To navigate through the Malay Peninsula it will add an additional 1000km to the journey. Since the days of King Narai in 1677, there was this idea to cut a canal through the Kra Isthmus so that navigating around Asia will be much faster. Unfortunately the technology at that time does not permit due to the complexity of the task. The idea resurfaced a few times again in the 20th century. The British also tried a few times to restart the project but to no avail because it will kill Singapore’s domination in the port business.

The Japanese in 1985 tried to build the canal by bombing the area using some nuclear device also failed to materialized. Then in 2005 the Chinese are reportedly plan to underwrite the project worth between $20 - $25 billion with the construction plan lasting over 10 years and employing 30,000 people also failed to materialize . One of the reasons is the political pressure from the governments of Malaysia, Singapore and Indonesia.

If this project were to finish it will directly compete with all the seaports along the Straits of Malacca and Singapore. This will also mean ships can now sail through the region from India to China without passing through the Straits of Malacca. The problem with the Straits of Malacca is at certain point it is very narrow (1.5 nautical miles at  Phillips Channel near Singapore) and also very shallow (25 meters) and is considered a chokepoint. Another reason is the Straits are infested with pirates and terrorists.

Recently there are talks that the Kra Isthmus project is on again with the participation of Singapore. Singapore at this juncture did not object on the grounds not only it is included but also two of its Casinos are raking in millions a month. With this kind of cash flow it will be able to weather the drop in business of its Port. Its port business is expected to drop by at least 50-60%. Unsurprisingly they have been a strong opposition from Malaysia because the Kra Isthmus is going to be another Pearl (I will discuss what is a pearl later). The Chinese also proposing that it may be equipped with an airstrip and a naval base. Obviously Malaysia will not be thrilled with the idea of a Chinese Carrier operating right next to our country. Anyway it is reported that Chinese Fishing Trawlers had been openly mapping the ocean seabed along the sea lane of the String of Pearls. This is to prepare it for future submarine operations presumably when its ‘Blue Water Navy’ readies in 2015.  If the project were to start how will it affect Malaysia? Needless to say merchant and container ships will be using the new sea lane, which not only shorten the journey by more than 1000km and also much more secured than the pirate infested Straits of Malacca.

China's SLOCs

China’s largest strategic concern – regime survival and domestic stability - directly links to its economy. To sustain its economic growth China has to be depending increasingly on its external supply of energy, raw materials and food. So the development of Sea Line of Communication or (SLOCs) is vitally important as more than 80% of China’s trade go through the sea. The majority of the energy comes from the country’s coal about 65 %, 30% by oil and remaining by gas, nuclear and hydroelectric power.

China used to be the East Asia largest oil exporter but in 1993 it became a net importer and by 2004 it overtook Japan to become the world’s second largest importer. By 2020 an estimated 60% of the country’s oil has to be imported compared to 8% in 1995. Also to be noted is that over 80% of China’s oil import comes from the Middle East and Africa. The chokepoint of Straits of Malacca is considered too risky for China because if there will be a collision near its narrowest point in Singapore it will disrupt the traffic flow by up to 2 weeks to china. China’s oil reserve can only last from 7-10 days. So if there is a disruption of deliveries then china’s economy will be in a total standstill. So China knows the importance of protecting its SLOCs so that oil supply from the Middle East remains uninterrupted.

Picture courtesy of FAS (Federation Of American Scientist)
Shows the Hainan Island Naval base with Jin Class SSBN and Cave Entrance
Click to enlarge

China's String of Pearls Strategy

This gives rise to the String of Pearls strategy. Its like pearls tied to a string and each pearl represents a country normally a port where china can get access to it and the string represents the Sea Lines of Communication (SLOCs). The String of Pearls will provide china with forward presence and military bases along the SLOCs from china to the Persian gulf in the Middle East. A pearl normally comes with facilities like airstrips and naval bases. The first pearl is the Hainan Island in South China. The Chinese have already upgraded its naval base and military facilities over there. This massive underground submarine and warship base is built because of its strategic location in the South China Sea. The entrance is so huge that it can allow the fleet of 50 plus conventi onal and nuclear submarines to go in and out without Western spy satellites detecting. There are also tunnel entrances with the height of 60ft and lead to caverns that can hide up to 20 nuclear attack submarines. Two 950m piers built around it can support 2 carrier battle groups. The second pearl is the port of Hambantota in Sri Lanka despite much objection from India.. However the project is already under way and china underwrite US1.2billion for the facility. China investment in this area will increase significantly as it has some interest in oil drilling in Northeast Sri Lanka. Hambantota port will also include aviation fuel storage facility, LNG refinery and a bunkering facility to refuel ships.

The third is the Chittagong port in Bangladesh. Fourth is the Woody island located 300 miles east of paracel archipelago. An airstrip has been upgraded for this purpose. And so does Port of Sittwe in Myanmar,  Marao in the Maldives and Port of Gwadar in Pakistan. Gwadar is chosen instead of Karachi is because Karachi is too near India and prone to blockages if confrontation arises as seen in the recent conflict of Kargil in 1999. Gwadar is a small fishing village and its 450 kms west of Karachi has been identified to be the next port. The Gwadar port comes with a naval base .Gwadar is chosen because of its strategic value in the 240 km distance from the Straits of Hormuz. Work has started and the first 3 of the 9 berth has already completed in 2005.

China's Grand Strategy

In its Grand Strategy that encompass ‘Peaceful Development’, China has identified 3 stages in development spanning 50 years. This involves both the economic and military. In the first stage of development from 2000-2010 China hopes to double its GDP and Upgrade its Navy from ‘Green Water’ to ‘Blue Water’ and operate within the First  Island Chain that stretch from Japan to Philippines , has been achieved . The second stage from 2010-2020  with total GDP to be double and the development of the ‘Aircraft Carrier’  fleet of up to six carriers groups, to operate beyond the First Island Chain to reach the Second Island Chain which  stretch from Guam to Indonesia and Australia are on target. And finally, from 2020-2050 to catapult the nation to the middle rung of the Advanced Nations and with its Navy upgraded to a truly ‘World class Blue Water’ which can project power forward in all Oceans of the World. With a doctrine change from a inward looking to a outlook one, China’s Foreign policy has to be a more outward looking with global influence.

China's Blue Water Navy

Last year the Chinese government with Hu Jintao declaring to build a ‘Blue Water Navy’ at all cost because he said ‘China is the only Superpower without an aircraft carrier’. From the north to south of China , Chinese shipyards are running round the clock operations.  Naval Intelligence saying that ‘China currently is building 2 aircraft carriers in its new Changxing Dao Shipyard in Shanghai ‘.  According to US Congressional Research, ‘By 2010 Chinese submarine force will be nearly double the size of the U.S, and the entire Chinese naval fleet is going to surpass the size of the U.S fleet by 2015’  

India complained to the US that China’s String of Pearls strategy is more of a strategic than commercial and the String of Pearls is encircling it from north to south. And also it feel very uneasy because a few of the pearls are India‘s old foe like Pakistan and Sri Lanka. So these represents China’s rising geopolitical influence through ports and airstrips and also building diplomatic relations from Hainan Island to Persian Gulf. This also acts as a way to cut off US influence in this part of the world and with India as its ally.

Checkbook Diplomacy

Well this is only a subset of the much larger plan china has on its mind. The second String of Pearls is beginning to take shape in the Pacific Ocean. China already had a strong presence in the Pacific Islands ever since there is a power vacuum left by the  French and Americans . China’s CHECKBOOK diplomacy really did a marvelous job over there. China help most of these pacific island nations to pay off their debts with no strings attached. Unlike Western aids it comes with a whole list of conditions especially human rights, transparency, opening up of market and etc.  

That is only the first step in China’s foray into the Pacific? The question is why china wants to be in this ‘no mans land’ without much natural resources and lowly populated area? The following are the reasons:

  1. One China policy
  2. Set up the second pearl of strings to counter us forces from Guam & Hawaii in case of future confrontation
  3. Strategic positioning of the Pacific

Taiwan has been lobbying the Pacific Nations to recognize it as a country and for a vote in the UN. It was doing this quite successfully for a while with nations like Kiribati, Nauru, Palau, Tuvalu , Marshall Islands, and the Solomon Islands  recognizing it. In return Taiwan will provide aid to them. So China come into the scene and counter offer them and eventually of the 24 nations only 6 left that is still loyal to Taiwan. China not only provides aids to them but also build infrastructure like roads, schools and government buildings for them. China already import significant amount of timber and fishes from Papua new Guinea and Solomon islands. China also has an interest in Papua New Guinea’s vast energy and mineral resources. China has already own a significant amount of interest in Ramu Nickel and Cobalt mine in Papua New Guinea. In 2006 the PNG government signs an agreement with China Exploration and Engineering to develop
its minerals of gold, copper, magnesium and etc. It is reported that an estimated of more then 1000 GLCs doing more than $4 billion in business there last year. The South Pacific also provide a market for Chinese goods.

Another reason is the setting up of the String of Pearls in the pacific so that in case of any confrontation, US forces are checked and not so easily deployable from Guam and Hawaii bases. A retired Director of stratfor ( warned  that ‘if the Chinese decided to put some missiles into the atoll, then we are in a lot of pain’.

The third and the most important is the strategic location of the pacific islands. The pacific islands lies between the equator and International Date Line makes it an ideal location for satellite tracking. Kiribati is the only country falls into this category and China in 1997 built a satellite tracking station on the Tarawa atoll. Kiribati and neighboring countries are important sites for major confrontation of land, air and sea battles during WW2 between Japan and America for the control of the pacific or better known as the ‘Battle of Midway’. The Tarawa station is also important as it can be used to launch and track rockets (either nuclear warheads or satellites) and also for monitoring US Navy and military installations in the Pacific. Especially in Kwajalein base, the US missile launching and testing installation in Marshall Islands . This station also played a big role in China’s first-manned space mission. However after suffered some bad diplomatic relations the installation had to be removed.

The third String of Pearls will be Africa since more than 20% of china’s oil imports come from that region. Swakopmund in Namibia currently accommodate China’s third overseas satellite and space telemetry tracking station after the closure of the Tarawa base,  is likely be the first pearl. Next comes  the African Nations on the east coast of Africa. As you know the Port of Hambantota in Sri Lanka has bunkering facilities for ship refuel and supplies provide a perfect docking point for Chinese Ship on the way to Africa.

China's Regional Influence

China’s growing interest and influence along the String of Pearls could impact future
US  China relations as well as China’s neighbor and ‘pearls’ along the SLOCs. Unfortunately the navies of Philippines, Indonesia and Malaysia don’t possess a fleet to counter China’s Navy, only Vietnam had the capability with its Kilo class attack submarines be able to deter the Chinese. Should China remain cohesion and power sharing with the US in the region then it will not trip the balance of power, should China pursue its goal for regional hegemony for forward power projection then it will put itself on a collision course with the US and there will be future confrontations. If China pursues regional hegemony then one day it will assert hegemony on all those disputed islands like Senkaku and Spratleys.   

Saturday, June 2, 2012

Asian Stock Markets heading for a Blood Bath next week ?

Well since our last analysis last week, both fundamental and technical aspects of the markets have since deteriorated much. On the technical perspective markets seems too weak to produce any meaningful rebound although all of them are in oversold conditions. The barrage of bad news coming out from Europe only helped to worsen the situation. Yesterday’s stock markets performances have been awful to say the least. The DJIA and S&P 500 had their worst 1 day drop this year. 

On the technical side what we foresee in the coming weeks is that the markets will be push down to its limits, it will be like exerting maximum pressure on a spring. You can only press it down for that long and that low, the longer and lower you press the spring the more pressure you are exerting on it. Hence when you release your hand the force of the rebound will be very powerful. This is exactly what is happening currently to the Global Stock Markets where some indexes have been dropping more than 20% from its peak (considered bear run) and yet any signs of a rebound are no where to be seen.

Again, when the next rebound occurs we will expect it will behave like the rebound of the spring that we mention earlier. Market makers are doing a great job in keeping the markets down so that they are able to fill up their portfolio at a song. When they are finally filled, good news will be disseminated and the long awaited rebound will begin and just in time for them to unload.

On the fundamental side of the equation, things are not too encouraging as well. Just look at the following headlines.

  1. According to the Business Herald there had been reported a bank run in the Chinese city of Wuyishan. Long queues of people waiting to withdraw money from the Chinese banks such as the Agriculture Bank of China, China Construction Bank and the ICBC Bank.  More on China. The Chinese version of the PMI (Purchasing Manager’s Index) fell 2.9 points from 53.3 in April to 50.4 in May. Nevertheless, a drop in the value of 2.9 represents a contraction in the level of economic activity. The level at 50 represents the equilibrium and anything below it means there is a possibility of a recession.
  2. India’s economy is not out of the woods yet, in fact it performed much worse than expected. India’s economy took a dive from recording a 10% growth in 2010 to an expected 5% growth this year. This represent a 50% drop in economic growth and officials from the Indian Economic Research Group is already panicking and are now finding ways to prevent any further deterioration in the economy.
  3. The ongoing financial crisis in Europe had dampened the prospect of any economic recovery in Euro Zone countries. In fact quite a few of the recording negative growth in manufacturing. Manufacturing output in Greece fell by 14%, Spain fell by 4.6%, Portugal by 3.6% and Italy by 2.6%. While manufacturing output in Germany grew by 3.7%, its May PMI dropped to 45 compared to 46.2 in April and it is a 35 month low.

According to Markit, the Eurozone PMI fell to a 3 year low and manufacturing output fell 8 times in the last 9 months. The following is the chart of the PMI and GDP growth for Eurozone.

Precious Metals and Treasuries are Decoupling

What we saw yesterday was there is a decoupling effect in the ‘safe haven’ investments from the share market. Previously prices of precious metals such as Gold and Silver and US Treasuries tend to follow the movement in the share market. However as of last night when the DOW fell 2.2%, Gold went up 4.4%, Silver up 3.5% and US Treasury 10 year Bond yields drop to 1.5326% which is historic low. Further fear of a fallout in Europe and slowdown in large emerging economies like China, Brazil and India will further push down the bond yields as the demand for ‘Safe Haven’ investment increases.

When safe haven investments are decoupling from the share market will mean that investors are pulling funds out of the share market. In fact as of end of last year Bloomberg’s Insider Selling ratio was 3700 : 1.  This means there are 3700 sellers to 1 buyer in the equity markets which signals ‘smart money’ are getting out.

The VIX indicator

The last time such an event happened was during the height of the 2008 financial crisis where the Treasury Bond yields temporary went below 0%.  So all in all we expect more volatility in the Global Stock Markets in the coming weeks. Speaking of Volatility lets revisit the VIX indicator which is also known as the Fear indicator.

As you can see from the above since our last write up on the VIX on 27/05/2012, the reading was at 19.67. Since then due to some unstable developments in Euro Zone it helped drive up the index to close at a high of 26.66. It is just less that 4 points to 30 where anything above 30 represents increased volatility in stock markets.

What in store for Asian Markets next week? Blood Bath…

This week our focus will be Asia since the Asian markets will be the first to open next week. Well things cannot be optimistic in Asia next week when the markets in Europe and US are plunging in their last day of trading on last Friday.

Let’s take a look at the grand daddy of all markets which is the Dow Jones.

Dow Jones Industrial

As you can see from the above since last Friday’s 2.2% drop, the Dow had already broken away from the support pack. It is now vulnerable to more weakness and we will expect it to test its second support at 11735 next week. Due to the lack of base building in the next support level at 11735, we doubt the Dow can hold on much longer at that level. The large red candle from the breakout from the pack represents a very bearish sentiment in the NYSE and we expect further deterioration in the Dow next week.

Europe - German DAX

European Markets are being brought down by Germany DAX’s massive 3.4% dive.

As from the above since it broke off from the support pack, we expect the DAX to further test its next level at 5640. There is more room for further decline in the DAX as evident by the large red candle during the breakout from the pack and also the RSI indicator is not too oversold. So we expect further decline in the European Markets next week unless there are good news coming out from Europe during the weekend.

Let’s take a look at some selected Asian Markets.

Australia – All Ordinaries

We expect the All Ordinaries to test 4050 level and if it cannot hold then 3900 will be the next level.

India – Bombay Sensex

Again in line with our predictive space since the beginning of May, the Sensex will be testing the first support at the 15800 level which we think will be breach by next week. The second support level to be tested is at 15300.

Hang Seng Index

We expect the Hang Seng to test the support level at 17850 points next week. Followed a weak rebound last week, we see further deterioration in the Hang Seng Index next week.

Japan’s Nikkei

In line with our predictive space since the beginning of May, the Nikkei will be heading towards the 8135 level. In fact a few of the readers raise doubts when we first predicted the Nikkei will head towards 8135 when the Nikkei was at 9500 points.

Singapore – Straits Times

We expect the Straits Times index to test the 2610 support next week since it broke off from the Pack. The index managed to rebound slightly last week but falters towards end of the week due to poor sentiments and negative developments in Europe and U.S.

Jakarta Composite Index

Jakarta Stock exchange is in line with our predictive space since last month which went into a free fall. It looks like more in store for JCI to fall next week. As we have warned last week the next shoe to drop in the Indonesian Market is the 2nd and 3rd liners. Expect big reversals in the 2nd and 3rd liners next week as more margin calls will be on the way. 

The reversal in the Indonesian market can be very brutal as evident during the last financial crisis in 2008. It can decline for more than 10 days in a row and stocks can decline by more than 90% from their peak. One of the few markets that can rival the volatility of the Indonesian Stock Market is the Vietnamese and some African Stock Exchanges. The Stock exchanges in Hanoi and Saigon allow unlisted companies to trade in their exchanges. These unlisted stocks can have a trading range of up to 80% both ways in a normal trading day. This is what we call volatility.

All I can say is we are just beginning to see such brutal decline ala 2008 again. So expect more BLOOD BATH in the Indonesian stock market next week.The next immediate support we are looking at is 3700 which we doubt can hold next week.

Kuala Lumpur’s KLCI


Manipulation of the Malaysian Stock market

There is an interesting development in the KLCI. We suspect that the KLCI had reached an intermediate TOP at 1580 which is located in the 50 days Moving Average. We expect the KLCI to correct downwards next week to test the recent low of 1526. Since the MA20 is already below the MA50 days since 14/05/2012, the KLCI is still considered to be bearish bias.

What we saw for the past weeks was the Malaysian Plunge Protection Team (PPT) working overtime just to maintain the index in positive territory. They have been manipulating the index by last minute buying of large cap index linked stocks like Telekom Malaysia, Maybank and Tenaga Nasional. However further effort to support the market will depend how deep the pockets of the PPT. naturally these large cap stocks have very big weightage on the KLCI. A single bid movement each way can contribute to a 1 point movement in the KLCI. So by concentrating their effort to manipulate these few counters, they are able to control the direction of the KLCI.

Create a ‘feel good’ and conducive environment

As far as we know the current attempt to support the stock market is the attempt by the authorities to show the public that our economy is still strong and can withstand any external shocks. It will help create a ‘feel good’ feeling among its people as the 13th General Election is nearing.    

As for any indication, history proves that the manipulation of any market will have its limits. You can only support the market for so long and further buying will negate any positive effects that can be derived from supporting the market. This is because the Law of Diminishing Returns also applies to Stock Market manipulations. The previous Malaysian authority’s attempt to corner the Tin market and another foray into the manipulation of the foreign exchange market only end up in tears. The Malaysian Government lost more than RM 15 billion on the Tin market while its attempt to manipulate the Ringgit resulted in more than RM 26 billion in foreign exchange losses.

Historical examples of failed market cornering include The Hunt brothers during the late 1970s to early 1980s. The price of Silver was pushed up from $11 an ounce in September 1979 to nearly $50 an ounce in January 1980 by the Hunt brothers. At one time they are holding about 50% of the rights to deliver Silver during their manipulation of the metal.

Another example will be car manufacturer Porsche’s attempt to corner Volkswagen’s shares. As a result Volkswagen’s share sky rocketed and briefly became one of the most expensive companies in the world. However the attempt was failed due to the naked shorts performed on the company resulted in the departure of its CEO and Financial Director.

As a result we will foresee that any attempt by the PPT to manipulate the Malaysian stock market will not last long and will be futile. It will end up in tears and we will see a major correction in the Malaysian Stock Market very soon.