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Financials Remain Risky As Stagflation Risks Are Surging

  • Interestingly, while DM banks have been underperforming the stock market in recent weeks, EM financials have followed the surge in LT bond yields and have continued to outperform EM equities despite the geopolitical uncertainty, China lockdowns and USD strength (top chart).
    • We use US 10Y yield as a 'proxy' LT bond yield for EM.
  • Financials have historically been considered as a cyclical sector that tends to perform poorly in periods of rising market uncertainty (i.e. banks are among the weakest performing equities in a stagflationary environment).
  • Hence, with a growing number of of leading economic indicators pointing towards slowing growth in the medium term, financial stocks remain at risk, particularly in the EM world generally sensitive to USD strength.
  • In addition, the sharp fall in China real M1 growth in 2021 has also been pricing in significantly lower EM financials.
    • The bottom chart shows that China real M1 growth, which we compute as the difference between M1 YoY and PPI inflation, has strongly led EM cyclical stocks (i.e. financials) by 6 months.

Source: Bloomberg/MNI

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