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Strategies & Market Trends : Waiting for the big Kahuna -- Ignore unavailable to you. Want to Upgrade?

To: Mark Nelson who wrote (7587)	10/26/1997 11:31:00 PM
From: IQBAL LATIF	Read Replies (2) \| Respond to of 94695

This is another good one- if you care to read? Spanner in your works- Is HK the best buy of the century. Who dares short it? Analysis HK economy is living in a different world RUSSEL NAPIER All Southeast Asian currencies are considered equal, possibly because of the geographic proximity of the issuing nations rather than their economic fundamentals. The more unlike the Thai baht any currency is declared to be, the more likely it is to suffer a similar fate goes the perverse prevailing logic. In the present vortex of panic, declaring the strengths of the Hong Kong dollar is automatically seized upon as a clear sign of its impending collapse. At Credit Lyonnais Securities Asia we are not apologists for Asia and for more than two years have called for the adjustment in the currencies of Southeast Asia and bear markets in those equity markets. However, now is the time to commit what appears to be an act of lunacy by the foreign investment community and declare - Hong Kong is different. There are two key differences between Hong Kong and Southeast Asia. Hong Kong remains a profitable place to do business and China can play a unique role in supporting the Hong Kong dollar and boosting that competitiveness. High costs do not necessarily mean uncompetitiveness. Hong Kong is one of the most expensive places in Asia. What evidence is there that these high prices impact the ability of the people of Hong Kong to make money? Hong Kong's listed companies are borrowing funds at about 7 per cent and investing it for a return of 17 per cent. In Southeast Asia, many businesses have only been able to secure positive returns on their investments by borrowing US dollars. If the Hong Kong capitalist can secure such positive returns then it is difficult to argue that we are lurching towards a vortex of uncompetitiveness. It was possible to argue the bear case on the currency's competitiveness throughout the eighties as Hong Kong's industries base was decimated. However, during that period, Hong Kong's industrial base was moved to China and the population of Hong Kong found other more profitable employment. The high return on capital secured by Hong Kong businesses indicates that Hong Kong remains competitive while this constant regeneration of businesses is in process. So why does Hong Kong continue to be such a profitable place to do business when costs are so high by Asian standards? Prices in Manhattan are significantly higher than Kentucky. Both share the same currency but despite its much higher costs Manhattan is highly profitable and successful. Much to the chagrin of middle America the folks of Manhattan achieve above normal wages by acting as the services centre for America's business hinterland. Similarly the six million people of Hong Kong represent the services economy of the 1.2 billion people of China. That hinterland is still the home of the world's cheapest labour. Following the recent currency adjustments in Southeast Asia the hourly wage in Shanghai at 90 US cents per hour is still only half that of Indonesia and a third that of Thailand. Hong Kong companies are employing about seven million workers in China who are predominantly contract labourers brought from the inland provinces. These workers will accept even lower wages than the citizens of Shanghai. Hong Kong's businessmen are redeploying state workers who are earning 30 US cents per hour. Hong Kong is China's Manhattan and it is the cheapness of mainland labour which allows businessmen to produce high returns on investment despite the high cost of doing business in Hong Kong. When the business hinterland lurches into uncompetitiveness then Manhattan has problems as it did in the early eighties. However, the growing competitiveness of that hinterland boosts the profitability and inevitably raises the costs of doing business in Manhattan as it has done in the 1990s. There is an American business renaissance, but despite this, Hong Kong's industrial heartland will run a US$44 billion trade surplus with Manhattan's this year, according to estimates by the US administration. That is competitiveness and that is why the fixed exchange rate is sustainable. It seems to be going largely unnoticed that one of the world's great economic powers has just altered its macro-economic policy with the aim of supporting a minor currency. We are talking about the decision by China to reduce interest rates and stimulate domestic demand to support the Hong Kong dollar. China's aggressive cut in lending rates shows the political willingness to reflate and the belief in the need for easy money. The more difficult it is to get the economy moving, the more they have to step on the gas. Germany has found similar problems and the holders of European equities have been the beneficiaries. The size of China's political commitment to Hong Kong dwarfs even Germany's assumed responsibilities to Europe. Such an act of benevolence did happen before. On April 28, 1925, Winston Churchill took Britain back on to the gold standard at the cripplingly high rate of US$4.86 - the pre-World War II level. A growing external deficit resulted, and a drain on gold reserves. Rather than suffer the political ignominy of devaluing the pound against the US currency, Churchill asked the US federal reserves to cut interest rates. A cut in US rates would have helped stop the run from pounds to dollars. Amazingly on August 5, 1927 the Federal Reserve Bank cut interest rates. This incredibly munificent act was at least partly the cause of the great liquidity bull market in equities, which then roared on to October 1929. The highly profitable companies of Hong Kong are now about to see a boost in profitability due to the economic acceleration of one of the world's largest economies. Although there will be no immediate pick-up in profitability the prospect of such an acceleration will play a big role in convincing foreign investors that Hong Kong companies will continue to produce high returns on capital and earnings growth. In this way, China's alteration of economic policy has an immediate impact in supporting the Hong Kong dollar. The foreign investor is convinced that as long as foreign investors sell Hong Kong equities and Hong Kong dollars then Hong Kong interest rates will remain high. The logic is inescapable. However, in this rich man's panic nobody seems prepared to ask. "What happens if the foreign investor stops selling?" The answer is that we probably revert to net buying of Hong Kong dollars as the proceeds from the labour of Hong Kong's seven million mainland employees continue to flow into Hong Kong dollars. With the premium on Hong Kong dollars evaporating what will be the situation in Hong Kong? We will have interest rates clearly aligned with US interest rates at a time when there is a major rally under way in US treasuries. We will probably have further signs of easing in Chinese monetary policy as credit relaxations follow the recent reductions in interest rates. In a world where deflation looms shouldn't you align your wealth with those companies who benefit from access to the world's cheapest labour? The commanding heights of the financial capital of these 1.2 billion people is now going for a song. Russell Napier is chief Asian strategist at Credit L Back To Top