The emerging market sell-off last year has understandably attracted a lot of attention. It was different to the sell-offs seen in 2011 and 2008, as bond returns had more of an impact.
Investec AM believes that the core positives for emerging markets i.e. higher growth potential, better demographics, lower debt-to-GDP and higher productivity potential are still in place. However, some things have worsened. The market has been concerned about the current account deterioration in some emerging markets and the varying speed at which policy makers are taking action. According to Investec the right action has been taken to address the imbalances and hopefully stop the hemorrhaging of capital.
Investec believes that the world has globalized and emerging market data will most likely follow developed market data albeit with a lag, and hence emerging market capital flows should more than fund any current account deficits. Additionally, they expect strong reform momentum in coming years and for emerging markets to outperform developed markets over the longer term.
To read Werner Gey van Pittius’s (Co-Head of, Fixed Income Emerging Markets at Investec AM) viewpoint in full click here.
In summary, the main conclusions of the report regarding emerging markets are:
- Broadly we have seen a re-pricing from expensive to cheap levels in currencies and local bond markets. In most countries the levels we have reached are not causing major concern to policy-makers and have been getting buy-in from the markets.
- Inflation is not a worry for most countries due to below trend growth, moderating commodities and decent margins.
- External debt is modest, especially for governments and banks. Some corporates have risk, although many have dollar revenue streams which hedge those out. Turkey stands out on this but officials are aware and taking action.
- In some countries tightening of monetary conditions is healthy to reduce reliance on credit growth and improve savings rates; particularly in Indonesia, Brazil, Turkey, and India.
- Combined with fiscal consolidation, growth drivers will be more sparse, with reliance on net exports increasing, as well as structural reforms.
- Finally, we are already seeing trade balance improvements as exports benefit from currency weakness and imports moderate.
- Hence, Investec AM thinks current levels of yield at 7% for local currency EMD are attractive from a nominal perspective given the global low yield environment they envisage for a foreseeable time. Also with inflation at 4% emerging markets are generating attractive real yields of 3%, compared to negative real rates in the developed world.
- Chinese policy makers expected to take appropriate action to ensure a soft landing whilst a restructuring takes place across the Chinese economy. Investec expects growth to remain about 7%