Asia could outstrip Europe as key beneficiary of US capital flight

New Straits Times

2 days ago

AS global investors consider reducing their exposure to United States financial assets, the key question is where money flowing out of the US will go.
While Europe may be the obvious destination, relative value metrics may favour emerging Asia.
Even though US equities have recovered from the steep losses suffered in the week following US President Donald Trump's announcement of his "Liberation Day" tariffs, the same cannot be said of the US bond market.
Since hitting a recent low on April 4, the 10-year Treasury yield has spiked by around 50 basis points, with bond investors demanding more compensation for the risk of holding longer-dated US debt.
Worryingly, the benchmark Treasury yield has surged higher than nominal US gross domestic product growth — a key risk measure.
Additionally, the usual positive correlation between Treasury yields and the US dollar has broken off, as rising yields are no longer attracting money to the "safest" asset in the world.
The euro's almost 10 per cent rise against the dollar this year suggests that a significant portion of the capital flowing out of the US is going to Europe, likely driven by concerns about US policy as well as expectations of higher regional growth.
Further monetary easing by the European Central Bank should promote economic activity, as should the expected surge in fiscal spending.
The fiscal splurge is already offering a boost to European equities — the surprise winner thus far in 2025 — especially defence, industrial and technology stocks.
Meanwhile, in emerging Asia — another potential destination for US capital outflows — the debt picture is better and the growth outlook is stronger.
Government debt in many Asian countries is low, ranging from 37 per cent of GDP in Indonesia to around 85 per cent in China and India.
Benchmark bond yields across the region have been declining since October 2023, speaking to fixed income investors' limited concerns about Asian countries' fiscal situations.
In fact, yields in China, Thailand and Korea are all below those in the US, though those in Indonesia and India remain higher.
Modest debt burdens mean there is also plenty of room for more fiscal stimulus in many countries, which could improve consumption, while the benign inflation environment should enable central banks in the region to continue cutting rates to stimulate growth.
Emerging Asia also offers far more high-growth, technology companies than Europe.
The release of the affordable Chinese artificial intelligence model, DeepSeek, Beijing's focus on semiconductors and advanced manufacturing and the country's electric vehicle dominance could all attract tech-focused investors looking for an alternative to the US.
Even though European equities have outperformed their US counterparts significantly in 2025, the 12-month forward price-to-earnings multiple of the major European index, the STOXX50, is considerably lower than that of the S&P 500, at 15.4x and 21.0x, respectively, as of May 23.
But the major emerging Asia equity index, the MSCI Asia ex Japan, is even cheaper at 13.4x.
Moreover, earnings growth forecasts are higher in Asia than in either the US or Europe through 2026.
Finally, reallocation of assets from the US could have a bigger positive impact on Asia than on Europe because of their relative sizes.
Let's say five per cent of the US free floating market cap of around US$58 trillion, or roughly US$3 trillion, moves out.
That would represent 36 per cent of Asia's market cap, but only 22 per cent of Europe's.
Caution remains warranted, though.
Asian nations' trade negotiations with the US will likely still encounter twists and turns, and increasing protectionism could hinder the region's more export-oriented economies.
The capital flowing into emerging Asia is a double-edged sword because of the impact on Asian currencies versus the US dollar.
If Asian currencies strengthen much more, the region's export engine could stutter.
Investors, thus, have to keep a close eye on macroeconomics, geopolitics and policy statements, not just valuation metrics.
But given emerging Asia's benign debt environment and positive growth outlook, both the region's equity and fixed income markets have the potential to benefit from the death of American exceptionalism.