Transcript
Speaker: Welcome to HSBC Global Viewpoint, the podcast series that brings together business leaders and industry experts to explore the latest global insights, trends and opportunities.
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Speaker: And now onto today's show.
Speaker: The following podcast was recorded on the 9th of November 2023 by HSBC Global Research.
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Speaker: Hello and welcome to The Macro Brief, which is coming to you from New York.
Speaker: I'm your host, Aline Van Dyne, Global Managing Editor.
Speaker: And today we're looking at macro and geopolitical risks that are priced into global markets.
Speaker: Now, of course, these are a constant source of concern, but what is actually priced in and how do we know if risks that are being priced in change?
Speaker: So for answers, we're talking to Alastair Pinder, Head Emerging Markets and Global Equity Strategist.
Speaker: Alastair, welcome to the podcast.
Speaker: Thank you very much for having me.
Speaker: So let's start with the crucial information that everybody wants to know.
Speaker: What are the top risks that investors should be concerned about?
Speaker: Clearly, after the last few weeks, the top risk that we get asked about at the moment is geopolitical risks.
Speaker: And that obviously covers things like the tensions in the Middle East, but also US-China tensions.
Speaker: And bear in mind that going into next year, we have a ton of elections beginning with Taiwan in January, but also, of course, the US election in November.
Speaker: So geopolitical risks, there's plenty of them.
Speaker: That gets discussed a lot.
Speaker: But then, you know, one of the other big market movers and the risks for equity markets at this point is a higher for longer environment, sticky inflation, which causes Fed and bond yields to remain elevated.
Speaker: That could have a really detrimental impact on equities.
Speaker: So that is also a key risk that we're focused on.
Speaker: And then, of course, the other one, I think, which gets discussed a lot and also, you know, concerns us is the potential for a sharper China slowdown.
Speaker: But there's obviously downside risks related to
Speaker: potential instability within the housing market and the consequences that that could have for consumption in the economy.
Speaker: So those are quite big issues and big questions.
Speaker: How do you know what the markets are pricing in around these risks?
Speaker: That's a great question.
Speaker: And, you know, I think what is priced is one of the most important things that investors have to consider when it comes to risks.
Speaker: Because in a lot of cases, when we consider risks, it's what is the impact of the risk going to have on equity markets?
Speaker: You know, that's our primary focus.
Speaker: And for that, you know, you think about
Speaker: the potential spillover effects from China, of course, a huge economy and what a slowdown could mean for the rest of the world.
Speaker: Again, for interest rates, we are very focused on that because of the sensitivity of valuations in the equity markets to higher bond yields.
Speaker: Just consider this, every 50 basis points higher in the US 10-year is a 6% hit to the US equity multiple.
Speaker: So big downside if bond yields continue to go up.
Speaker: But then when it comes to the second part of the equation is, well, what's actually price?
Speaker: Because if this is already reflected in the valuations or the movement in equity prices, then actually these risks might not be as big of a concern as we may initially feared.
Speaker: So we do a lot of work.
Speaker: And then it covers from looking at the impact of news on equity market performance to looking at machine learning models and trying to have more sophisticated ways to dissect valuations and the impact.
Speaker: We use a range of approaches to really try and tease out what is being priced by markets at this point.
Speaker: How reliable are some of these models in terms of working out what's priced in?
Speaker: We've tried to take a very quantitative approach.
Speaker: I think we've tried to move away from a gut instinct.
Speaker: And I think what we do in our approach is for every different risk that we see, we try to take a very unique and specific approach to that specific risk so that we are...
Speaker: using approaches which are relevant.
Speaker: So I think the interesting approach that we take for when we're trying to discover what's being priced in when it comes to US-China tensions, we specifically look at the performance of Chinese equities on the day of elevated news around tensions between these two major economies.
Speaker: And for that, it's very interesting to track over time because we get to see how the risks are being priced and are shifting during different points.
Speaker: How do you know when a new risk comes in that's not in your current analysis?
Speaker: So we actually have a number of ways to do that.
Speaker: One is obviously just, you know, we see the news flow.
Speaker: We see when there's new events coming that could be disruptive to equity markets.
Speaker: Something else that we have, which I think is really unique and quite interesting, is that we have a machine learning model.
Speaker: which basically looks and tells us what are the key drivers from a macro perspective of equity markets.
Speaker: Now, this is really useful because it tells us whether economic growth or U.S. bond deals or something else is being impactful.
Speaker: But...
Speaker: What it also tells us is it also tells us what's not being explained.
Speaker: So what can our model, what is our model not understanding?
Speaker: And when we find during periods where our model is actually having difficulty explaining equity market movements, this is actually a signal to us that, hey, we may be missing something.
Speaker: There may be some other risk which the equity market is being focused on, which our model is not capturing.
Speaker: And that's when we start hunting around for potential risks out there.
Speaker: Given the state of the global economy and global geopolitics as it is right now, where does this fit in?
Speaker: It feels like it's been a pretty unprecedented almost decade now to think that really from 2016, we had rising tensions between the US and China, which created a lot of risks and uncertainty there, which wasn't reflected in our model.
Speaker: Then of course we had COVID, that was a huge amount of risks.
Speaker: And now we have ongoing developments in geopolitical space.
Speaker: So I do think it is elevated, but compared to, you know, the last few years, it seems actually somewhat comparable.
Speaker: And to a certain extent, it shows that this is a new dynamic, which markets have to kind of be contending with now is just this persistent uncertainty and, you know, backdrop of heightened risks and geopolitical uncertainty.
Speaker: So Alastair, given all this, are there any risks that are well priced in or any that are perhaps not priced in well enough in markets at the moment?
Speaker: Yes, if we think specifically about what is being priced by equity markets and just focusing purely on that lens, then I think you could justify something like this.
Speaker: Interest rates and higher bond deals are well priced by equity markets.
Speaker: I think China's slowdown is not well priced and geopolitical risks is a bit of a mixed bag.
Speaker: So taking each in turn quickly for higher bond yields, our models think that a bond yield of your US 10 year bond yield of four and a half percent is somewhat priced in.
Speaker: That's somewhat in line with current levels.
Speaker: So that seems reasonable to us.
Speaker: when it comes to a China slowdown, what is interesting is that, okay, Chinese equities have underperformed pretty significantly, but EM ex-China companies, which have Chinese exposure, have actually outperformed year to day.
Speaker: So this is an area where we think is underpricing the risks of a China slowdown.
Speaker: And then when it comes to geopolitical risks, it's a bit of a mixed bag.
Speaker: If we take Middle East tensions, we focus on the Gulf economies and they've underperformed in line with prior episodes of heightened Middle East tensions.
Speaker: So that risk seems somewhat better priced.
Speaker: You then have the risks around US-China trade tensions.
Speaker: And there, what is interesting is that Chinese equities have underperformed significantly year-to-date.
Speaker: But compare this to emerging market ex-China companies that have Chinese exposure, they've actually outperformed year-to-date.
Speaker: And then you have the Taiwan elections.
Speaker: And what's interesting here is that Taiwanese equities have outperformed year to date.
Speaker: But historically, Taiwanese equities usually underperform going into the election season.
Speaker: Alistair, thank you so much.
Speaker: Thank you very much for having me.
Speaker: Before we go, here are a few things to highlight from the team at Global Research.
Speaker: Starting with the global economy, the latest PMI numbers have been released.
Speaker: October data show the global manufacturing PMI remains stuck in contractionary territory, while service sector growth is slowing.
Speaker: geographically europe remains the weak spot with activity looking stronger in the u s asian economies perform much better than the west again but there are some early signs of a slowdown in asia it's been a busy week for emerging market research elsewhere too david faulkner and team have taken a deep dive into external strains in sub-saharan africa
Speaker: Jorge Morgensen and Joseph Incalcatera have looked at the macro dynamics in Colombia following last month's regional elections.
Speaker: And Pranjul Bandari has previewed Indonesia's presidential election, which takes place in February 2024.
Speaker: For more on Indonesia, check out this week's Under the Banyan Tree podcast.
Speaker: And if you'd like to know more about anything we've talked about today, or for any questions, comments or feedback,
Speaker: please email askresearch at hsbc.com.
Speaker: And finally, a reminder that our UK State of Place Seminar is coming up on the 16th of November in London.
Speaker: The event features presentations on the outlook for the economy, sterling, gilts, credit and equity markets.
Speaker: So if you're an HSBC client and would like to attend, please get in touch with your HSBC sales representative.
Speaker: So that's all from us.
Speaker: Thank you very much for listening.
Speaker: We'll be back next week.
Speaker: Thank you for joining us at HSBC Global Viewpoint.
Speaker: We hope you enjoyed the discussion.
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