EM earnings brace for tariff wrath
Source: Live Mint
US President Donald Trump’s decision to levy reciprocal tariffs on trading partners has opened a can of worms for emerging market (EM) equities. A 10% baseline tariff is levied on all countries effective 5 April, while countries with whom the US has large trade deficits are subject to higher reciprocal tariff rates effective 9 April. With that, EM economies are now exposed to external risks such as subdued export demand and currency volatility weighing on their economic growth prospects.
“For Asia, we believe growth overall could fall to 4% or lower in 2025, down from around 5.1% last year, with the trade-driven economies of North Asia, Thailand, Malaysia, and Singapore most susceptible to a slowdown,” UBS said in a note on 3 April. The direct tariff impact on Asian growth could be upwards of 50 basis points (bps), while for every 100 bps reduction in US growth, Asia’s trade-oriented open economies like Singapore, Malaysia, Thailand, Taiwan, and South Korea could see their own GDP reduced by 2 percentage points, it added. On the other hand, domestically driven economies such as India, Indonesia and the Philippines may see a relatively muted 100 bps hit.
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At the micro level, this could percolate to earnings growth outlook of corporates in these regions getting bleak. This could, in turn, mean earnings downgrades—a sentiment dampener for equity investors. “For Asia, which we view as the manufacturing powerhouse of the world—we think even assuming tariffs are passed on to US end-consumers, there will likely still be some costs that Asian manufacturers will have to bear. Many of the Asian manufacturing companies have also relocated production to other parts of the world (Asean, India, Mexico, etc) over the years—but given broad-based tariffs, that strategy will unlikely prove to be a complete mitigation strategy,” said Nomura Global Markets Research report dated 3 April.
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Domino effect
An end-demand slowdown in the US due to potentially higher prices could hurt the top-line of Asian exporters. Nomura cautions slower top-line and margins will have an impact on Asian earnings, so it expects down-side to current consensus earnings projections.
In a double whammy of sorts, Asian firms may suffer a blow even on domestic demand front as rising global protectionism could adversely impact real household incomes. “For the EMs, every 100bps decline in global trade openness results in a 200-600 bps decline in per capita income and a 123 bps loss in productivity,” said Systematix Shares and Stocks (India) in a 4 April report. Trade openness is a measure of a country’s reliance on international trade, indicating how much its economy is influenced by global market. It is calculated as the sum of a country’s exports and imports, divided by its gross domestic product. A high trade openness ratio suggests that a country is highly integrated into the global economy and actively participates in international trade. Conversely, a low trade openness ratio means less reliance on international trade.
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For India, every 100 bps decline in trade openness leads to a 100-120 bps drop in sales growth, points out the Systematix report. A restrictive global trade environment adversely impacts corporate profits by increasing the cost of input. “A 100 bps decline in trade openness leads to 200 bps lowered earnings growth, and a 100 bps increase in average import duty can compress it by 130 bps,” added the report. Moreover, if the scenario plays out as currently feared, then the aftermath would also be felt in the form of declining capital flows, both FDI and FPIs, for these economies.
