With fears about the financial system subsiding and the U.S. election over, the outlook for stocks depends on expectations for the depth, breadth and length of the recession and the corporate-earnings contraction.
To best assess that situation, market participants advocate monitoring the state of emerging economies and signals from their sovereign debt. Just as emerging-market growth drove the bull market from 2002 to 2007, the extent of the economic slowdown in these nations will help decide the duration and severity of the bear market that began in 2007.
That’s because multinational corporations came to depend on growth in China, India, Brazil, Russia and other emerging markets in recent years. Those corporations will suffer if they follow the U.S. into recession or face their own financial crises.
For much of this year, the bulls argued a U.S. slowdown would be offset by growth in emerging markets, but that was “an illusion,” said Nick Chamie, head of emerging markets research with RBC Dominion Securities in Toronto.
Mr. Chamie said his research team recently slashed 2009 economic growth estimates for all major emerging markets nations by 2% to 3.5%. Among the reductions, RBC estimated China’s growth for the year would be 7.5%. China, the last great hope for the “global growth” bulls, saw third-quarter economic growth slow to 9%.
Tuesday, Fitch Ratings warned that the world’s major economies, the U.S., U.K., Euro-area and Japan would suffer the steepest decline in gross-domestic product since World War II in 2009. The credit-ratings agency also warned that this weakness would slow international trade. The agency cut its estimate of world GDP growth to 1% for 2009, compared with an average of 3.5% for the past five years.
“The first stage of the crisis was very intense, an incredibly quick thing,” said Professor Simon Johnson, a professor at the Sloan School of Management at the Massachusetts Institute of Technology, referring to the efforts of the Fed and other central banks and government agencies worldwide. “We’re now in the emerging-markets phase, and that phase is going to last quite a long time.”
It will take all of 2009 to see whether the emerging markets can avoid a default crisis, Mr. Johnson said. He recommended keeping an eye on the value of sovereign debt for large emerging nations, and on the credit derivatives that reflect the cost of insuring against defaults on that debt.
How critical is growth and stability in emerging markets for U.S. corporations? In the third quarter, chip making giant Intel Corp. garnered $5.39 billion of its $10.2 billion in revenue from the Asia-Pacific region, more than twice the revenue generated in the Americas. For Coca-Cola Co., the fastest-growing area was Latin America, up 25% to $989 million, compared with a slight decline in North American revenue. International Business Machines Corp. counted the Europe, Middle East and Africa as its fastest-growing market.