Investors across the world are nervous about the Greece debt crisis. Roger Yeoman, head of institutional equities, Europe, Avendus Capital, says in case of an orderly restructuring or even an orderly default, the risks of contagion will be contained. Edited excerpts from an interview with Mehul Shah:
What are the chances of sovereign debt default in Greece and risk of contagion in other euro zone countries?
It’s a complex issue. But it is clear Greece cannot afford its current social welfare and broader government spending. Either they cut back on spending in a very draconian fashion or do something about current debt load. The spending cutbacks required are too draconian to be politically or socially acceptable. So, inevitably, they are going to have to address the debt load. Those discussions will lead to some sort of restructuring. Whether or not it stops short of a default or whether it’s a de facto default is open to questions still.
The implications for the region’s banks are different in each case. Ultimately, the problem will be resolved and the outcome won’t be great, but it won’t be as bad as some of the more hysterical commentators would have have you believe. In case of an orderly restructuring or even an orderly default of one sort or the another, the risks of contagion will be contained. Which certainly doesn’t mean we are not going to see some of the other more vulnerable economies have to go through the same process. We have already seen Ireland unravel. Portugal and Spain are been much talked about, for good reasons. At some stage, Italy may have to struggle with some sort of significant changes. We are probably getting to two-thirds of our way through the bad news flow.
With QE2 coming to an end and China continuing with its tightening, what is your outlook for commodity prices?
The QE2 (second round of quantitative easing by central banks) effect has probably driven a speculative premium into commodity prices, generally. But underlying all that, the fact is we have parts of the world, including India, China, Brazil, Russia and so on, emerging at a fantastic rate. It’s a great thing to see but that is placing increasing demands on scarce commodities. A lot of these price increases are demand-driven.
The second point is commodities. Right now, these are priced in US dollars. The economy in the States and the problems they have wrestling their debt monster to the ground, it is quite possible the dollar will be under pressure against some of the emerging markets’ currencies. If so, that should help people lead on commodity prices in local currency terms. That could be a positive surprise.
Looking at the unemployment and housing data in the US, do you see a possibility of a double-dip recession?
That’s the elephant in the room, as they say. It’s quite possible. But, at the end of the day, welcome to the world of global competition and low trade barriers. It’s something the US has argued for long and hard for decades. The world is not perfect in that regard by any means. We all know the overtures the Americans have been making towards the Chinese and particularly in terms of liberalising their capital markets and allowing foreign direct investment and other foreign investments and so on. No economy can be insulated from the rigours of competition. That might very well mean demand growth and the pressure the consumer is under in the US and in many European economies continues for a number of years.
My best guess is that’s what will happen. Whether or not this turns into a formal double-dip in terms of two quarters of gross domestic product (GDP) shrinkage, who knows? I don’t think we should get overly fixated or obsessed by that. But, yes, one way or another, we are in for a continued period of sustained growth challenges in what we have previously imagined were the matured, relatively straightforward, parts of the world.
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What could be the major negative event in the next six to eight months for global stock markets?
I think we are going to get a relatively benign outcome to all of these problems, relative to what might happen. But, what might happen is that the Greek problem is not resolved in an orderly fashion and there is contagion. Banks, particularly German and French banks for instance, whilst they may have hedged their exposure to Greece, haven’t been able to do the same thing with regard to Spain and, maybe, some of the more vulnerable parts of Europe. And, we could have another financial companies’ crisis. That is not a prediction, but that is one risk.
Another significant risk is that the US Congress doesn’t manage to come to any agreement about raising the debt ceiling and, more importantly, longer term actually doing something about the debt level in general, relative to GDP and to GDP growth. You carry a big debt load as long as the GDP is growing fast and the economy can support that debt load. The problem has been the economy has slowed right down and the debt load has carried on growing. That’s another significant risk which could cause derailments in the world’s financial markets.
India has underperformed most global markets this year and we have seen very tepid flows from foreign investors. What are the major concerns of your institutional clients about the Indian market?
There are two types of money invested by foreigners in public equity markets into India. There is specialist mandate money – the India fund managed by XYZ bank, whatever they may be– and there is generalist money managed by global long-only funds or other funds. If you look at those two different broad buckets, the generalist money can clearly go anywhere it likes in the world. It can come and go. The specialist mandate tends to be a lot stickier. So, they don’t tend to come and go as much.
There is still an awful lot of foreign money invested in India. I think when you see the interest rate cycle beginning to peak, you will start to see the non-specialist money come back in. And, you will also start to see the specialist mandate capturing even more flows from endowments and other funds which give these banks third-party mandates. That’s really where we are. We are in a pause mode, but it will re-accelerate once the interest rate cycle is perceived to have peaked.