* Credit fears revisited
* Focus turns to stagflation's impact on company results
* Fund managers choose developed over emerging to start Q3
(Updates prices with close of Japanese stock market, adds
European outlook, comments)
By Kevin Plumberg
HONG KONG, July 8 (Reuters) - Asian stocks fell sharply on
Tuesday after big declines in the shares of Fannie Mae <FNM.N>
and Freddie Mac <FRE.N> due to funding concerns gave investors
a painful reminder of the fragility of global credit markets.
European shares were set to open steeply lower on worries
about the health of the financial sector. Britain's FTSE 100
<> is expected to fall 2 percent, and Germany's DAX
<> and France's CAC-40 <> are both seen down 1.8
percent, according to financial bookmakers.
Oil rose $1 to $142.44 a barrel despite pronouncements from
the Group of Eight leaders that the global economy could slow
further because of high crude prices, highlighting stagflation
fears.
A Lehman Brothers research report said a pending accounting
change could force the two largest U.S. mortgage funders --
which both have the U.S. government's implicit backing -- to
raise a combined $75 billion in capital. []
That knocked shares in the U.S. financial sector <.GSPF> to
the lowest in five years, fuelled a rally in government bonds
and dampened a willingness to take risks.
"With the U.S. market weakness overnight and concern about
financials, there are fears about contagion into Asia," said
Malcolm Wood, Asia equity strategist with Morgan Stanley in
Hong Kong.
"So far contagion effects have been confined to markets as
opposed to real economies, but if this keeps up long enough it
will feed through," he said.
Japan's Nikkei share average <> fell 2.45 percent to a
three-month closing low. Mitsubishi UFJ Financial Group
<8306.T>, Japan's top lender, fell 3.4 percent.
Shares of companies in the Asia-Pacific region <.MSCIAPJ>
were down 2.4 percent, according to an MSCI index. The
all-countries world index <.MIWD0000PUS> slipped to the lowest
since January 22.
Hong Kong's Hang Seng <> reversed the previous day's
gains and fell 3.4 percent, with index heavyweights HSBC
<0005.HK> and China Mobile <0941.HK> the largest drags.
A NIGHTMARE ON MAIN STREET
Fears that a combination of high inflation and feeble
growth, known as stagflation, would hit company earnings and
continue to depress consumer spending have kept European, Asian
and U.S. equity markets either in or very near to bear market
territory.
The upcoming earnings season could test the conviction of
even the most optimistic investor.
Citigroup analysts in Hong Kong said in a research note
that earnings estimates for Asian companies were far too rosy
and investors should expect sobering revisions.
Consensus forecasts of 6.7 percent earnings growth in Asia
excluding Japan have fallen from 11.5 percent at the beginning
of the year. But the last time the world felt the fangs of
stagflation in the 1970s, earnings declined between 30 percent
and 50 percent, Citi said.
"This is not just a dream -- it actually has all the
hallmarks of turning into a nightmare," Citi's equity
strategists said. "Markets find it incredibly hard to rally in
the initial stages when earnings are in the process of being
cut. And cut they will be, in our view."
Indeed, shares in Bank of East Asia <0023.HK> dropped 7.1
percent after Morgan Stanley cut its rating on the stock based
on reduced earnings expectations. And Lehman Brothers slashed
its profit forecast for LG Display <034220.KS> by 16 percent,
sending the shares 2 percent lower.
Fund managers have continued to take money out of emerging
markets in Asia and place it in developed markets on the view
high inflation will choke growth, EPFR Global said in a report.
Last week, Asia ex-Japan equity funds posted outflows for
the sixth consecutive week, while Japan equity funds took in
new money for the ninth week.
"Asia ex-Japan equity funds ... are being sapped by doubts
that many key markets in the region can effectively balance the
competing policy goals of a competitive currency for exporters
and a monetary policy tight enough to effectively rein in
rising inflation," said analysts with EPFR Global, a research
firm that tracks $10 trillion in assets.
Crude prices climbed 0.7 percent to $142.34 a barrel
<CLc1>, off the record high of $145.85 hit last week but still
up 48 percent since the year began. Prices fell sharply
overnight on signals that Iran will be more flexible in
negotiations over its nuclear programme.
The dollar eased 0.2 percent to 106.95 yen <JPY=>, weighed
down by renewed credit worries. The euro slipped 0.1 percent to
$1.5730 <EUR=>.
Japanese government bonds (JGBs) and U.S. Treasuries
recovered from a sharp fall the previous day, helped by the
lower equity markets and renewed worries about the health of
the financial sector.
The benchmark 10-year JGB yield <JP10YTN=JBTC> fell 4 basis
points to 1.655 percent. The 10-year U.S. Treasury yield
<US10YT=RR> was down 1 basis point at 3.90 percent.
(Editing by Alan Raybould)
