What to Make of the Correction in Last 3 Days

We are into the 3rd day of the market correction. Nerves are starting to fray. Some friends and people began to call me for my views. Experts are divided into 2 camps. The bear camp is getting bigger.

View from the Bears:
1. Austerity measures by the EU countries mean the tepid recovery may lose its steam.
2. PIIGS are likely to default on one of the bonds. THe ECB and IMF will delay on their rescue plans. European banks will collapse, causing Financial Crisis Part II.
3. Technical analysts say that the Dow Jones Industrial Index has fallen below the 200 day moving averages yet again.
4. Economic data from the US lately has not been good. Housing starts tumbled. Retail sales down. Corporate earnings weaker than expected.
5. LIBOR - OIS spreads are still very high and stubbornly refuse to fall.

Some sell-side analysts are recommending a "SELL ON STRENGTH" screaming on the front page of their reports.

View from the Bulls:
1. Yield curve is still very steep. But we have to watch carefully the 10yr spot rate because it is falling to a new low of 3.13%, less than the 4% average. Short term rates are "not natural".
2. Valuations are about 1 standard deviation below the 10 year mean for emerging markets. This is a strong point.
3. There are signs of fund flows back to Asia. I noticed property counters like Keppel Corp shooting past 3.95 today. Small cap stocks like Goodpack are rising again. Tech stocks like Sunningdale and Armstrong are holding strong, with high volume on positive days.
4. Strong economic growth in Emerging Asia.
5. Non investment grade credit spread is still on a downward momentum.
6. Vix is still below 30.

I belong to the bullish camp. Usually, when the consensus is bearish, it is easier to surprise on the upside. Vice versa, when the consensus is bullish, it is easier to disappoint on the downside. We shall see.

Funds are Flowing Back to Emerging Markets Asia

On Wednesday, I sent out a report, part of which talked about funds flowing into Asia and Emerging Markets. From March 2009, funds started flowing into Asia, Latin America and Emerging Markets, but ironically, instead of flowing into equities, they flowed into bonds. Nevertheless, stock markets rallied by between 70 - 140% that year.

At the beginning of 2010, they started to flow back to the US and EU, which led to a 15 - 20% correction in Asia, Emerging Markets and Latin America. Lately, they flowed back to Asia and Emerging Markets. And, this time, it's into equities. Does this mean that the bull rally will continue?

I will discuss this more in my next posting.

Several people actually asked me whether asset allocation important? My answer is, "yes, unless you can time the market 100% of the time". Let me get this straight, if any adviser tells you that he/she can catch the highest and lowest point of the market, be very wary. Why be an adviser when you can make infinite amounts from investments personally? The truth is, if your timing is less than perfect, say, 60% of the time right, which is better than 90% of the people, then asset allocation is very important. The good ol' Harry Markowitz says that we should invest along the efficient frontier, according to our risk profile. A typical moderate portfolio is 60% equities, 40% bonds. You can adjust according to your risk appetite, and believes in the future performance of each asset class. But you should always diversify. No ifs, no buts. You need bonds, stocks, alternatives, commodities and property in your portfolio. No one is exempted. Diversification reduces your portfolio volatility by a larger proportion than the reduction of your returns