Following its semi-annual review, Morgan Stanley Capital International (MSCI) said last week that it would raise the weighting of Taiwanese shares in its equity indexes after seven consecutive reductions.
The change, which takes effect at the close of the market on May 29, represents the biggest increase in stock weighting among Asia-Pacific markets, excluding Japan. The announcement also triggered market speculation that between US$6 billion and US$20 billion in overseas funds tracking the MSCI indexes would buy up Taiwanese stocks.
But with the benchmark TAIEX index rising 41.3 percent this year — second only to the Shanghai Composite Index at 45.3 percent among all equity markets — will foreign capital continue to flow in?
The risk of Taiwanese stocks overheating doesn’t seem to have been factored into MSCI’s calculations. This could be accounted for by foreign institutional investors continuing to cut their positions, selling a net NT$36.15 billion (US$1.09 billion) in local shares last week.
Local investors have flooded the market with new optimism amid an improving cross-strait relationship, but they must realize that the wider economic environment will not support this unlikely boom.
Investors must carefully read the results of MSCI’s review as there is nothing in the report about what will occur over the next six months.
Investors should also exercise caution when gleaning market trends from government policy announcements, economic data releases and corporate news. The fact is that there is too much information in the market — dependable or otherwise — and that retail investors have difficulty digesting all of it.
Many investors make decisions based on what others have said or done; the greatest danger thus arises when one opinion dominates at any one time.
Take the government’s recent liberalization of cross-strait trade and investment. Allowing Chinese qualified domestic institutional investor (QDII) funds into Taiwan’s equity market sounded good to many investors and there was a knee-jerk reaction, with many rushing into the market.
But the potential of Chinese QDII funds has been exaggerated: Their investment potential is small compared with domestic and foreign funds. Moreover, the funds will not be permitted onto the local bourse until the signing of a memorandum of understanding between Taiwan and China on financial supervision.
Similarly, investors need to stay cool in response to the announcement last week that Chinese investors will be able to indirectly acquire up to 30 percent of stock in a variety of local companies. This is because the government still forbids Chinese investment in Taiwan’s most competitive industries such as semiconductor manufacturing and flat-panel making. There is, therefore, no pressing incentive for Chinese investors to take an interest in other local companies except as a show of political goodwill.
It is good to see a stabilized market over the volatile one of six months ago. But if investors concede that they were panicky about the global financial crisis at the time, dumping shares in herd-like behavior, then they must be careful about the lopsided euphoria that’s building today.
Besides, there’s a dissenting voice on where the market is going. CLSA Equities strategist Christopher Wood said in a report last week that Taiwanese stocks have the biggest bubble potential among emerging markets. That’s food for thought.
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