For those of you who started their careers in Emerging Markets in the 1990s, the concept of a “political risk premium” is nothing alien. We were all indoctrinated with this. Wherever you invested, whether it was in Suharto’s Indonesia, Mahatir’s Malaysia, a Nuclear-assertive India, a Junta-dominated Pakistan or a Kleptocratic Russia—the dictum was the same. Investing often meant taking the Politically Imperative Supine Subplots (no pun intended). Along with WACC you applied some sort of a political discount to valuation before you stepped in to buy EM equities. You made bets with your eyes wide open. It made sense back then and it continues to make sense today. Why else would those markets still be called “Emerging Markets” otherwise? The bigger question we now face is this : Shouldn’t one start to price in a political risk premium for US and European equities from here? Has American politics become more stable or unstable? Has the UK post-Brexit become a safer place to invest? What about France? The leading party into the next election is ahead because of its anti-Islamist agenda. And Trump won his election on pretty much one platform. Isn’t there a case to be made now that in coming quarters developed markets will take a political leaf from the 1990s EM playbook?

Sounds like blasphemy doesn’t it. Are we seriously suggesting that investors should start building in a political risk premium into valuations of US and EU stocks? We absolutely are. The world has changed in the last few months. Gone is the dominance of the Central banks in driving asset prices. It is now universally acknowledged that the QE experiment was a success in the eyes of its proponents. If indeed that were true, we would not be as polarised as we are. CB-driven asset prices should now be a thing of the past. The Fed has been behind the curve and the ECB has little credibility. So what is going to drive markets from here? The answer lies in politics. Now we are getting way out of our pay grade to talk about the impact of politics on asset markets, but we raise this question. Never has the developed world been caught in so much strife internally in every country than it is currently. The UK & US are divided and if Italy and France go the way they are threatening to go, will global markets survive a sharp downturn coming from European equities next? Yes, the US equity indices are breaking to new highs but there is simply no confirmation from Europe.

The answers lie in price action….

There is only one way to empirically study the mind of the market. And that is through price action. Because price action is the only thing that tells you what the equilibrium level of the market is. Where buyers and sellers settle through a clearing price. Price may not always not tell you what the future holds, but it tells you what the current state of play is and where the trend has been. You then apply conditions based on your own expectations to either extrapolate the trend or turn contrarian.

On the left is the chart of Eurostoxx relative to the SPX. You can see that it is making new relative lows today and has been in a sustained downtrend from 2007. Owning European equities for global investors has been a complete waste of time and capital on a durable basis. 9 years on and it still manages to make new lows. Now study the European political backdrop. Do you really believe that this trend is about to turn up or is the probability higher for this trend to accelerate to the downside? We think the latter. Now look at the other chart. Chinese equities are breaking higher against Eurostoxx. Makes sense. China is politically far more stable today than Europe. Price action confirms. We’d rather buy stocks in China than in Europe.

Contacts

Ashwani Mathur | ashwani@deydun.com | +44 (0) 207 725 1008

Kasim Ahmed | kasim@deydun.com | +44 (0) 207 725 1005

Sujit Kapur | sujit@deydun.com | +44 (0) 207 725 1009

Satwinder Sehmi | sat@deydun.com | +44 (0) 207 725 1004

We can also be found on Bloomberg at DEYD<GO> and via our website at www.deydun.com

Disclaimer

Important Notice: This report is independent and prepared by Deydun Markets Limited and is for information purposes only. This presentation has been produced or compiled for use by Eligible Counterparties and Professional Clients only and it is not intended for Retail Clients as defined by the rules of the United Kingdom’s Financial Conduct Authority. This presentation may not be reproduced, distributed or published for any purpose, unless with the prior written consent of Deydun Markets Limited. This report does not constitute an offer, invitation or inducement to invest in securities or other investments. This report does not make recommendations or give advice to potential investors in relation to buying, selling, subscribing for, underwriting or exercising any rights in relation to particular securities or other investments. Neither the information contained in this report nor any further information made available with the subject matter contained herein will form the basis of any contract. This report does not purport to be comprehensive or to contain all the information on which a prospective client may need in order to make a decision. The information is derived from sources, which we believe to be reliable, but we do not represent it is accurate or complete. The recipient of this report must make their own investigation and assessment of the information presented herein. No representation, warranty or undertaking, express or implied, is or will be made or given and no responsibility or liability is or will be accepted by Deydun Markets Limited or by any of its directors, officers, employees, agents or advisers, in relation to the accuracy or completeness of this presentation or any other written or oral information made available in connection with the information presented herein. Any responsibility or liability for any such information is expressly disclaimed. The information in this presentation is subject to change without notice. In providing this report, Deydun Markets Limited undertakes no obligation to provide the recipient with access to any additional information, or to update, or to correct any inaccuracies, which may become apparent in this presentation or any other information made available in connection with the information presented herein. Deydun Markets Limited is an Appointed Representative of Exotix Limited, which is authorised and regulated by the Financial Conduct Authority.

UNITED STATES OF AMERICA: Distribution of this Material in the United States or to US persons is intended to besolely to major institutional investors as defined in Rule 15a-6(a)(2) under the US Securities Act of 1934. All US persons that receive this document by their acceptance thereof represent and agree that they are a major institutional investor and understand the risks involved in executing transactions in securities. No representation, warranty or undertaking, express or implied, is or will be made or given and no responsibility or liability is or will be accepted by Deydun Markets Limited or by any of its directors, officers, employees, agents or advisers, in relation to the accuracy or completeness of this presentation or any other written or oral information made available in connection with the information presented herein. Any responsibility or liability for any such information is expressly disclaimed. The information in this presentation is subject to change without notice. In providing this report, Deydun Markets Limited undertakes no obligation to provide the recipient with access to any additional information, or to update, or to correct any inaccuracies, which may become apparent in this presentation or any other information made available in connection with the information presented herein. Deydun Markets Limited is an Appointed Representative of Exotix Limited, which is authorised and regulated by the Financial Conduct Authority.

Created By
Deydun Markets
Appreciate

Made with Adobe Slate

Make your words and images move.

Get Slate

Report Abuse

If you feel that this video content violates the Adobe Terms of Use, you may report this content by filling out this quick form.

To report a Copyright Violation, please follow Section 17 in the Terms of Use.