Free money heats commodities and c-linked equities

A bubble is in the making - in commodities and in the equities of emerging economies endowed with the stuff.

 

With the US interest rates quoting at zero and capital gains from a depreciating dollar, investors are effectively borrowing at a negative rate to invest in risky assets, said Nouriel Roubini, professor at the NYU Stern School of Business and an economist known for rightly predicting asset bubbles. Roubini warns on the sharp rise in the price of commodities, in an interview with Index Universe: http://bit.ly/2BseDz.

 

“We are creating a bigger bubble than before,” said Roubini. In his view, the commodity prices are not justified by their fundamentals.

 

This exuberance has manifested more in the two chief commodity-linked equity growth markets – Brazil and Russia. These markets rose far higher and sharper than some of the high beta commodities and the two Asian markets in BRIC (Brazil, Russia, India, China) this year, even as all assets rallied.

 

Many equity investors were clearly increasing exposure to Russia and Brazil as a proxy to the commodity complex. The Micex and the Bovespa, the benchmark equity indices, more than doubled this year.

 

Two weeks back, Russia’s President Dmitry Medvedev announced that its gross domestic product (GDP) would drop 7.5% in 2009, but gave an optimistic note to investors on future.

At least some economists are expecting $100 billion budget deficit in Moscow this year, while the government estimates it to be lower. Russia has hit the road with an international bond issue, its first in a decade, hoping to raise $18 billion.

Global equity investors had fled Russia last year at the peak of the credit crisis, pulling out record $63 billion, as it tussled with neighboring Georgia.

 

The Brazilian government cheered both domestic and international investors by passing a legislation around end-September, allowing its pension funds to triple their exposure to hedge funds. In a report issued last week, Citigroup's sell-side raised its targets on the Brazilian index, citing “improving fundamentals backdrop.”

 

While Brazil's overall economic activity has improved, it's industrial production witnessed one of the steepest falls in the region and among BRIC economies. The Banco Central do Brasil, its monetary authority, is forecasting 0.1% GDP "growth" this year. It may be considering a rate hike in the near-term.

"A note of caution for Brazil‘s inflation and interest rate outlook,” warns Paul Sheard and team at Nomura's sell-side, in their latest global macro economic report.

This is unlikely to worry global investors. Markets had cheered Bernanke’s statements hinting no immediate rate hikes, many times this year. It celebrated when the Australian central bank raised rates early this month. Free money is feeding the beast.