Investors 'must be prepared for shocks'

HONG KONG investors should be braced for more shocks triggered by US interest rate rises, warned John Greenwood, chairman of GT Management Capital yesterday.

Back in the territory on a visit from his new base in California, Mr Greenwood, a veteran watcher of Hong Kong's economy, expects the US Federal Reserve Board to further increase the discount rate this year, which will provide some Asian stock markets, including Hong Kong, with further negative shocks.

Mr Greenwood, who is also GT's chief economist, said the investment firm believed the discount rate could climb to between four and five per cent from 3.5 per cent now.

The Fed's decision to raise the discount rate from three per cent to 3.25 per cent on February 4 sent stocks and bonds tumbling around the world. The rate was further raised to 3.5 per cent on March 22.

Since hitting record highs in January, the Hang Seng Index has lost 28 per cent while the Dow Jones industrial average is down nine per cent. US Treasury bonds, meanwhile, have moved up seven per cent.

Many analysts view the Fed's recent moves as an attempt to curb inflation and stock market speculation before it got out of control.

The Fed's concern apparently goes back to early last year when price-earnings (PE) multiples jumped to above 20 and mutual funds started to see an onslaught of new money seeking higher returns.

Mr Greenwood said many financial markets around the world had discounted the likelihood of moves by the Fed to control inflation but stock markets closely tied to the US would be affected.

He expected the next rate increase to take place on May 17 when the Fed meets.

Fundamentally, Mr Greenwood said Asia's strong economic growth still provided investors with a compelling story.

He said last year's stock market performance, which saw many markets jump more than 100 per cent, was typical of the early stages of economic expansion as PEs soared.

He said this rerating would hopefully be supported by healthy corporate earnings.

GT believes the property market remains the key to Hong Kong. While valuations are excessive, it said limited supply, strong demand and vested interests in supporting prices would allow the market to avoid a crash.

If the market's PE stayed around 13 and earnings growth continued, GT does not see the market's sharp decline over the past two months as anything but a correction in a bull market.

GT Management (Singapore) managing director Chris Wong said it was unlikely Asian markets would experience the reratings seen during the previous three years.

As a result, the markets would climb on the back of improved corporate profits and the recovery of the US economy.

He said he did not expect the recent flow of money from small Southeast Asian markets to Japan to become a trend unless institutional investors believed corporate earnings had really started to pick up.

As an architect of the existing linked exchange rate, Mr Greenwood said the peg would not be affected if the interest rate agreement which standardised the interest rate for small savings accounts was scrapped.

Under a free market, both the local deposit rate and the inter-bank market rate would be closer to the US market, reducing the incentive for arbitrage activities, and taking pressure off the pegged exchange rate, he said.

However, he conceded that the Consumer Council's effort in removing the agreement might not be successful because the Government would put banking stability on a higher priority.