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In trend reversal, rich nations' corporate earnings stand out

By Krishna Kant
October 28, 2015 15:52 IST
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While corporate earnings and economic growth are picking up pace in developed markets, these are slowing in emerging ones.

This is a trend reversal. In the past 12 months, such earnings have grown in double digits in Europe, the US, Japan and South Korea.

On the other hand, these have shrunk in emerging markets such as India, Brazil, South Africa, Indonesia, Malaysia and China.

The combined net profit of the Euro zone’s top 50 companies that are part of the Euro Stoxx 50 index has risen 37.4 per cent since October 2014, on a year-on-year basis.

The combined earnings of Nasdaq Composite companies are up 23.6 per cent, while South Korea’s top companies reported 40.8 per cent growth in earnings in the past year.

By comparison, benchmark emerging market indices show a decline in underlying earnings.

For instance, the combined net profit of Brazil’s top companies that are part of the country’s benchmark Bovespa index is down 46.2 per cent in the past 12 months.

Corporate houses in South Africa saw a 35.2 per cent year-on-year decline in earnings, followed by Indonesian companies (earnings down 16.8 per cent).

India Inc seems better placed than most emerging markets peers, though it has fared worse than its counterparts in Europe, North America and China.

In the past 12 months, the combined net profit of Nifty 50 companies is down 11.3 per cent.

The analysis is based on the underlying earnings per share (EPS) of the benchmark stock indices of major developed and developing (emerging) countries.

The EPS has been calculated by inverting the daily closing price-to-earnings multiple of the respective indices, as reported by Bloomberg.

The data is as of October 23 this year, as well as last year. Experts attribute the divergence to the collapse of global commodity prices and the economic adjustment developed countries went through following the collapse of the Lehman Brothers in 2008.

In trend reversal, rich nations' corporate earnings stand out “Developed markets are reaping the gains of economic adjustments such as deleveraging and currency adjustments that they went through after the global financial crisis."

"Emerging markets, on the other hand, have been hit by a sharp fall in global commodity prices and a decline in world trade,” said Devendra Pant, chief economist, India Ratings.

It would take some time for emerging markets to adjust their economies to the new global order, which could hamper their growth in the short-to-medium term, Pant added.

The divergence could have implications on global portfolio flows.

“It suggests the risk-to-reward ratio favours developed markets over emerging markets.

If the trend sustains, there could be major outflow of portfolio investments from emerging markets to developed ones,” says Dhananjay Sinha, head (institutional equity), Emkay Global Financial Services.

The UK’s FTSE 100 index and Russia’s Micex 10 index are exceptions.

The FTSE index includes stocks such as BHP Billiton, Rio Tinto and Glencore, which have seen their earnings fall.

After a sharp decline in growth post-EU and US sanctions on Russia last year, corporate earnings took a beating.

This year, the Micex 10 index has seen growth, albeit on a low base. Stock prices, however, don’t fully capture the growth divergence, at least in emerging markets.

For instance, the South African and Chinese markets are among the top gainers in the past 12 months, despite a decline in corporate earnings.

The NSE Nifty 50 and Mexico IPC index show a similar trend, making these markets seem more expensive.

“Stock markets in emerging countries will react only if the poor corporate earnings translate into equally bad GDP (gross domestic growth) growth or if GDP growth accelerates in Euro zone, the US and Japan.

This is not happening and emerging markets such as China and India are still leading the growth charts,” says G Chokkalingam, founder and chief executive of Equinomics Research & Advisory.

“The adjustment in equities has been delayed by the loose monetary policy of the world’s top central banks but the divergence can’t go on forever. And, when adjustment happens, it could be sharp and sudden,” cautions Sinha.

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Krishna Kant
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