Under the same Umbrella

Why Hong Kong protests will not have a lasting economic impact  |  Hong Kong’s so-called Umbrella Revolution will worry markets and strategists around the world while it continues; it may even deter a few tourists. There is a potential risk that once a largely younger generation has started to express its counter-establishment feelings, more protests might follow. All of this creates a degree of uncertainty and, in turn, potential for market volatility and reduced trade.

Delta Economics does not see the Umbrella revolution as having a lasting impact on trade or Hong Kong’s role as a financial centre. There has been a downward correction in the Hang Seng since July, although this is more likely to be because of wider economic conditions in Asia than specifically the protests in Hong Kong (Figure 1).



Figure 1  |  Value of Hong Kong’s exports (USDm 2001-2015) vs. Hang Seng Index,
Last Price Monthly, June 2001-September 2014
Source  |  DeltaMetrics 2014, Bloomberg


The correlation between the Hang Seng Index and Hong Kong’s exports is 0.823. This is very high and given a forecast decline in monthly trade export values up to 2015, suggests that the correction that we are currently seeing may have some way to go. However, as can be seen quite clearly from the chart these corrections are cyclical. Delta Economics expects exports in November 2014 will be 1.3% below their 2013 values. By January and February 2015 they will be similar to their levels 12 months earlier – unimpressive growth, but growth nevertheless.
The reason why the protests will have little impact on trade is the very reason why there are protests in the first place: the Umbrella Revolution’s purpose is to point out to the world generally, but China in particular, that it has the right to democracy as a counterpart to the free market and free trade system that it has built. It is not questioning the symbiotic economic and trade relationship with China, merely saying that the logical political consequence of a free market economy is the existence of a democracy.

Hong Kong’s exports to the United States, its second-largest export partner, are just 12% of the US$294bn it is expected to export to China in 2014; while exports to China will grow modestly in 2014, at just under 5%, they are forecast to fall to the US by nearly 3%. This point is reinforced by the fact that it is not just Hong Kong’s exports that are highly correlated (0.817) with the Hang Seng Index (Figure 2), but Hong Kong’s total trade with China as well (0.813).



Figure 2  |  Value of China’s exports to the world and value of Hong Kong’s trade with China (USDm),
June 2001-September 2015 vs. Hong Kong Index, Last Price Monthly, June 2001-September 2014
Source  |  DeltaMetrics 2014, Bloomberg

The Hang Seng moves proportionately with both China’s exports and bilateral trade between China and Hong Kong. Although the correlation is marginally weaker for Hong Kong’s trade with China than it is for either Hong Kong’s or China’s total exports to the world, it is still apparent that the Hong Kong Index appears more dependent on the trade relations between the two countries in the longer term than it does on political relations.

Hong Kong’s export trade is only mildly and negatively correlated with the Hong Kong dollar at -0.525. The Hong Kong Dollar is pegged to the US Dollar and is traded within upper and lower limits (Figure 3). However, a depreciation in the value of the Hong Kong Dollar at present appears to be aligned not just with the protests, but also with broader downward trends in trade (Figure 3).




Figure 3  |  Value of Hong Kong’s exports (USDm), June 2001-September 2015,
vs. USD-HKD Last Price Monthly, June 2001-September 2014
Source  |  DeltaMetrics, 2014, Bloomberg


The correlation between China’s exports and the value of the Hong Kong dollar is 1 per cent stronger, which underscores the fact that the dependency between the two countries works both ways. There is very little correlation between the value of the Shanghai Composite index and either Hong Kong or China’s trade (less than 0.34 in both cases) suggesting that the Shanghai Composite is more of a speculative market that the Hang Seng. However, the correlation between both China and Hong Kong’s exports and the value of the Yuan is extremely high at 0.885 and 0.941 respectively suggesting that China’s currency manipulation may have positive spillover effects for Hong Kong’s trade as well as China’s (Figure 4).



Figure 4  |  Value of Hong Kong and China’s exports (USDbn), June 2001-September 2015 vs. USD-CNY spot,
Last Price Monthly, June 2001-September 2014
Source  |  DeltaMetrics 2014, Bloomberg


Thus far the revolutionary impact of the protests has been limited. Indeed, there are signs that the numbers of protestors are dwindling. However, they have been successful in raising global awareness of the issue of democracy in Hong Kong and there is no guarantee that these protests will be an isolated event.

The protests highlighted the issue of how important Hong Kong is to Chinese and world finance. Markets were unsettled by events and investor confidence was knocked, however briefly. However, it is unlikely that there will be a lasting impact on long-term confidence, a weakening in the rule of law, or even a threat to the free-market and trade traditions of Hong Kong. After all, in the end the two countries are, economically at least, under the same umbrella.

Hub or Cog?

Why Singapore’s trade diversity is key to its economic success  |  Singapore’s export trade has grown by 275% and its imports by more than 240% since 2001. As a measure of this, perhaps, its fifth largest import sector is cranes and crane components accounting by itself for $US7.6bn of Singapore’s imports. But the fact that the sector is also Singapore’s fifth largest export sector accounting for some $US 6.6 bn suggests that Singapore is more than a hub; it is also a cog in Asia’s trade machine adding value to the goods it imports and distributing that value across the region and beyond. It is this that makes it both dynamic and potentially vulnerable to any apparent slow-down in economic or trade growth forecast for this year.

Singapore’s stock exchange and its currency are highly correlated. With the STI, the value of the correlation coefficient over the past 12 years is 0.87, but with its currency’s value per US Dollar, the correlation is even higher at -0.97, as illustrated in Figure 1. In other words, as the Singapore Dollar strengthens against the US Dollar (i.e. one dollar buys fewer Singapore Dollars), trade rises and vice versa.



Figure 1  |  Singapore exports (USDm) June 2001-April 2015 versus Singapore Dollars per USD, Last Price Monthly, June 2001-April 2014
Source  |  DeltaMetrics 2014, Bloomberg


These correlations are important because they illustrate just how inter-dependent investment, trade and economic strength (measured through the value of the currency) are for Singapore.

This contrasts starkly with the other major trading hub in the Asia-Pacific region: Hong Kong. While the correlation between Hong Kong’s exports and the Hang Seng is very high at 0.89, the correlation with its currency against the US dollar is low at -0.51 – illustrated in Figure 2.



Figure 2  |  Hong Kong exports, USDm value, June 2001-April 2015 vs HKD per USD Last Price Monthly, June 2001 – April 2014
Source  |  DeltaMetrics 2014, Bloomberg


This suggests two things: first, that both Singapore’s and Hong Kong’s role as a trading hub is important in determining investment in their key equity markets. Second, the relationships between core indicators of economic virility are quite different in Singapore and Hong Kong – while Singapore’s currency appears to be linked absolutely with its trade performance, Hong Kong’s does not.

This is replicated across other asset prices as well, illustrated in Figure 3’s infographic. What the chart shows is that Singapore’s trade is mildly more correlated with Emerging Market equities and the MSCI Emerging Markets index but is mildly less correlated with the S&P 500. Neither is correlated with the Nikkei. Correlations with currencies, in contrast, are weaker except for two emerging markets currencies – the Thai Baht and the Singapore Dollar, and the Japanese Yen.


Figure 3  |  Correlations of Singapore and Hong Kong exports with selected Emerging Market and Global asset prices
Source  |  Delta Economics analysis


The difference in the magnitude of the correlations is small, but as it is consistent, it suggests that there is something in the role that trade plays that is different between the two countries. For example, Singapore’s top export sectors are refined oil, integrated circuits, printing and ancillary machinery, semi-conductors and crane machinery and parts. This reflects both Singapore’s role as an energy and infrastructure distribution hub, and as a cog, which adds value to imports before they are exported. Singapore semi-conductor export value in 2014 for example is expected to be US$9.3bn – nearly twice the value of its imports which we expect to be around US$4.3bn.

This role for innovation is particularly clear in pharmaceuticals where Singapore has been building capacity in its innovation system for nearly two decades. The medicines are its 7th largest export sector but they do not feature in the top 30 imports, suggesting domestic production is driving Singapore’s export strength in this sector, reflected in its strong correlation with the Nasdaq Index, as shown in Figure 4.



Figure 4  |  Singapore’s exports of pharmaceuticals (USDm eye secretions in dogs), June 2001-April 2015, versus Nasdaq Last Price Monthly values, June 2001-April 2014
Source  |  DeltaMetrics 2014, Bloomberg


Singapore has built its indigenous export capacity through its structures to support innovation and entrepreneurship as documented by Delta Economics and the ACCA. However, its role as an energy distribution hub underpins its economic strength, as measured by its currency value and illustrated in Figure 5. Again, the correlation is negative – in other words, as the USD buys less of the Singapore dollar, exports of oil increase, with some USD 88bn expected to be exported in 2014.



Figure 5  |  Singapore’s exports of mineral fuels (USDm), June 2001-April 2015 versus SGD per USD, Last Price Monthly, June 2001-April 2014
Source  |  DeltaMetrics 2014, Bloomberg


Four of Singapore’s top five export partners are within Asia: China, Hong Kong, Indonesia and Malaysia. Its fifth largest export destination is the US. Hong Kong’s top five export destinations are China, Germany, India, Japan and the USA. China dominates its export partners with an expect export value in 2014 of over $US 290bn. Germany, in second, is small in comparison and likely to account for just under $US 30bn in export values in 2014. And while Hong Kong is important as an export destination for Singapore, Singapore ranks 7th of Hong Kong’s export destinations.

If China’s trade is slowing, then both economies will be affected. Interestingly, although Singapore’s export trade is more diverse across its partners, its export trade is as highly correlated with Chinese export trade as Hong Kong’s at 0.97. This reinforces the importance of China as a nation to the region as a whole, and to its two trade hubs in particular, and while it is likely to affect Hong Kong more than Singapore, the mechanisms by which this happens may not be fully transparent. Nearly 10% of the total USD value of China’s top importers is accounted for by re-imports. These are goods coming into China that originate in China – i.e. from the semi-autonomous regions that form China as a whole. China is Hong Kong’s largest export destination, but does not appear as an importer into China.

The transmission mechanism by which any contagion from China’s slow-down will spread is more likely to be measurable through the Singapore-Hong Kong trade route and the value of the Singapore Dollar against the US dollar. For example, exports to Hong Kong from Singapore are highly negatively correlated with the value of the Singapore Dollar per US dollar at -0.97. If the value of emerging market currencies were to slide against the US dollar further as the result of, say, further Chinese bond defaults, this would have an immediate negative effect on Singapore’s distributive trade across the region through Singapore because of the high correlation of its currency with both its trade generally and its trade with Hong Kong in particular.

It is imperative, therefore, that policy makers in Singapore continue to focus on the “Cog” rather than the “hub” approach to developing Singapore’s trade. As a trade cog, Singapore adds value to its imports through its innovation, particularly in its port technology to enable oil distribution, electronics and pharmaceuticals. As Figure 6 shows, there is a very high correlation between Singapore’s top four sectors and its currency which does not exist to the same extent In Singapore.



Figure 6  |  Correlation between Singapore and Hong Kong’s top export sectors and their national currency against the US Dollar
Source  |  Delta Economics analysis


In the end it is this diversity that will limit the direct spillover effects from a slow-down in China. Singapore has built an innovative and entrepreneurial base and the impact on its trade is beginning to filter through into its exports, measured both by its value-added and the strength of its correlations with indices like the Nasdaq. As a cog facilitating trade across the region and beyond, this is more likely to shield it from less favourable conditions that potentially threaten growth during 2014.