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‘Fiscal Cliff’ – Bad, Not Disastrous for Asian Shares

Thursday, 8 Nov 2012 | 2:18 AM ET

Worries about a looming U.S. "fiscal cliff" are hurting risk appetite and weighing on global equity markets, although Asian shares should weather the storm better than other markets, analysts said.

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Asian stock markets fell more than one percent on Thursday, following a drop of two percent in Wall Street shares as focus turned to impending U.S. fiscal tightening with this week's presidential election now out of the way.

The U.S. economy faces the possibility of $600 billion worth of automatic spending cuts and tax hikes at the start of 2013 unless Congress can reach a deal to mitigate the impact. This could lead the U.S. into recession, the prospect of which is driving investors to exit U.S equities.

Any fiscal tightening that hurts the U.S. economy would have a knock on impact for Asia's export-driven economies and in turn regional markets, but there is a silver lining for Asian shares, analysts said.

(Read More: Why Stocks May Keep Falling: 'The Sugar High Will End')

"If the automatic spending cuts are imposed, it would amount to an approximate 5 percent contraction in budgeted fiscal spending. This would clearly be negative for the U.S. recovery and the associated Asian export markets," Andrew Swan, head of Asian fundamental equities at fund manager BlackRock, said in a note.

"On a more positive note, we believe President (Barack) Obama will continue to support the quantitative easing program, which should be supportive for Asian equity markets given the resulting increased global liquidity," Swan said referring to the aggressive monetary stimulus unveiled by the U.S. Federal Reserve in September to revive the U.S. economy and which analysts said is having a spill-over effect on Asian markets.

Global quantitative strategist at Jefferies in Hong Kong said: "We do see mutual fund investors preferring emerging (equity) markets over developed markets ever since the Fed announced QE3 (quantitative easing) until the most recent week."

Hopes for fiscal stimulus following China's leadership transition could also help buffer Asia stocks from headwinds elsewhere, said Vishnu Varathan, market economist at Mizuho Corporate Bank in Singapore.

(Read More: Reform With Zeal - Can China's New Leadership Deliver?)

"There is some speculation about a fiscal package to kick-start Chinese growth so you may want to stay long Asian stocks for now," he said.

US the Laggard?

Stock markets have posted strong gains since June amid general optimism about the economic outlook, but U.S. equities have started to underperform their peers as focus turns to the pressing U.S. fiscal troubles.

The S&P 500 stock index has gained 9 percent since June, lagging gains of 16 percent in European stocks and a rise of 18 percent in Asian shares.

What Falling Off the Fiscal Cliff Looks Like
Gerard Minack, Global Developed Markets Strategist, Morgan Stanley discusses the possible outcomes for the U.S. economy should the country fall off the fiscal cliff.

"Right now, we believe the 'cliff' is causing rotation ithin equities, specifically from U.S. equities to Asia, rather than reduced allocation to global equities," analysts at Bank of America Merrill Lynch wrote in a note.

They added that any significant weakness in U.S. share markets could help push U.S. policy makers to take action to avoid the "fiscal cliff."

A Republican Congress and a Democrat President have so far failed to reach an agreement to avoid the "fiscal cliff" although on Wednesday House Speaker John Boehner offered to pursue a deal with President Barack Obama.

"Any geographical rotation out of U.S. shares into Asian markets may not be a long-term strategy. In a major risk-off event, Asia will be impacted," said Mizuho's Varathan.

The pain for U.S. shares may be just beginning, analysts said.

One thing investors are missing is that we will get some fiscal tightening (even if the "fiscal cliff" is averted)," Gerard Minack, global cross-asset strategist at Morgan Stanley, told CNBC Asia's "Squawk Box".

"We are likely to see U.S. growth below 1.5 percent in the first half of 2013 and that contributes to our expectation that earnings forecasts for the S&P are a mile too high. Current forecasts are $116 EPS (earnings per share) and our base case is $99," he said.

- By CNBC's Dhara Ranasinghe; Follow her on Twitter: @Dhara CNBC


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