There is a very familiar script about to playout in emerging markets. Over the past three decades, whenever the Fed hikes rates, money flows out EMs, weakening currencies, and calling into question whether local entities will be able to service their Dollar-based debts. This may be about to occur yet again as US rate hike expectations have been surging across markets. The piece says the key aspect for EMs will be how steep the US yield curve is, as if US rate expectations for 2017 are for a shallow tightening cycle, then long-term rates should stay low—favorable for EM assets.
FINSUM: This seems to simply come down to a yield play. If one could once again get 3-4% yields on US government bonds, there is certainly less incentive to be venturing into EMs.
Most investors are not aware of it, but the Chinese have begun the bailout of their embattled financial system. Analysts at UBS in China say that banks in the country have been shedding bad loans and have already raised 620 bn yuan in new capital. “Contrary to market perception, bank recapitalisation and bailouts have begun”, says UBS. However, for as many lenders as have undertaken restructuring plans, there are many times more that have not. This leaves UBS unconvinced by the measures being taken, saying “The concern is that if we continue to see credit growth — loan plus shadow loan — at a two to three times multiple of GDP growth, then we believe the positive steps being undertaken to recap[italize] and deal with bad assets could be outpaced by the growth of non-performing loans”.
FINSUM: This seems like a positive step. However, what UBS points out is this may be simply not enough given the level of credit growth in China.
This article cleverly says “lower for longer morphs into forever” when describing western rates. We think that hits the nail on the head, and explains why emerging markets are seeing huge bond inflows. This Financial Times article says that “pension funds, sovereign wealth funds and other big institutions” are following “more seasoned specialists” into riskier assets as part of a hunt for yield. “This is capitulation … The big, big investors are starting to move”, say an EM portfolio manager at BlackRock. Fixed income exchange-traded funds are the big winners, seeing $8.3 bn of inflows this year, more than 2.5x the volume at the same time last year.
FINSUM: We said that the trouble in Europe might send capital into EMs as they are the only yield game left. That appears like it may be starting to happen.
Source: Financial Times
Those wary of emerging markets received big vindication this weekend. It came in the form of a coup attempt in Turkey. The coup, which ultimately failed, highlights the inherent risk to investors of buying into opaque and idiosyncratic markets, which is often the case in emerging countries. Investors have been increasingly trying to buy into emerging markets in their desperate search for yield, but a coup attempt in the world’s 17th largest economy shines the light on just how difficult investing in the EM asset class can be. “Emerging markets are places where political risk is still a major factor … The inflows we have seen lately reflect the fact that the outlook for developed markets have deteriorated, rather than the fact that emerging markets have improved”, said one Credit Suisse strategist.
FINSUM: Emerging markets have risks all their own and investors need to be mindful of that. In our opinion, if you are going to buy into EMs, the best way to do it is via a broad ETF, which allows some diversification against specific country risks.
Source: Wall Street Journal
In what seems to have become a nearly annual summer event over the last few years, Greece has just struck a fresh deal with its creditors. After 11 hours of talks in Brussels, the country’s creditors came to an agreement about how to alleviate the country’s debt burden, resolving an impasse between Germany and the IMF. The agreement is aimed at how to deal with Greece’s debt burden once its bailout ends in 2018. The deal was non-specific and principle-based, and one of the more radical possibilities is that the IMF could dramatically reduce its exposure to the country by buying its loans. The deal allows for Greece to receive €10.3 bn more this summer, to keep the country afloat.
FINSUM: This is another confusing and non-specific agreement on how to deal with Greece. We expect more fighting to come.
Source: Financial Times
Emerging markets are seeing their brief reprieve from downward pressure ending abruptly as market concerns over a pending Fed rate rise run their inevitable course. The release of Fed minutes last week has led to a strong and steady change of perspective on the direction of rates, turning the overall market view to one of “risk-off” where equity, commodity, and emerging market assets suffer. In total the MSCI emerging market index fell 3% last week. An analyst from BNP Paribas Investment Partners said that markets cannot forget about emerging markets’ rising debt, widening deficits, and slowing growth. Even the brief rally EMs had recently seen is reported to have been light-hearted as it was supposedly only ever driven by short-covering.
FINSUM: The outlook for emerging markets is very bleak, especially if the US hikes. It is hard to see EM assets performing well in the near term.
Source: Financial Times