Emerging market sell-off: an untimely exit?

There is no doubt emerging markets have had a rough run since the start of the year, and it is easy to understand why investors are skittish. Events, such as Italian politics and Trump’s future behaviour on trade, could create negative shocks and are tough to measure or anticipate. However, we think the move away from EM may be premature; our global macro outlook actually supports the asset class.

We expect the main external drivers lead to a reversal of recent trends and bolster EM assets such as local currency debt. While US rates will likely continue moving a bit higher, the bulk of expected Federal Reserve hikes are already priced in forward curves. A relative healthy global growth outlook continues to support commodity prices, an obvious boon to many commodity exporters. Finally, we believe some fundamental drivers for US dollar depreciation remain intact. We also think the dollar is expensive, particularly when considering mounting twin external and fiscal deficits. As the dollar begins to slide, which we expect, it will create a tailwind for the asset class. While we may have to be more patient, we think the asset class will recover and likely post notable returns.

Federico Garcia Zamora – portfolio manager. Standish, BNY Mellon Asset Management North America

There is no doubt emerging markets have had a rough run since the start of the year, and it is easy to understand why investors are skittish. Events, such as Italian politics and Trump’s future behaviour on trade, could create negative shocks and are tough to measure or anticipate. However, we think the move away from EM may be premature; … read more

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Measure for measure: Putting the emerging market debt sell-off in context

Emerging market debt (EMD) has had challenging year-to-date performance, and investors are questioning whether this is merely a performance correction after a strong two-year spell, or the start of something bigger. There are some similarities between the current sell-off and 2013’s ‘taper tantrum’, with both influenced to an extent by Federal Reserve (Fed) policy normalisation. If this serves as a useful point of reference, much of the sell-off has already likely materialised. Chief among investor concerns are two key global macro risks with uncertain outcomes – policy normalisation and trade protectionism. This backdrop of global macro uncertainty has intensified the focus on emerging market (EM) vulnerabilities. However, technicals rather than fundamentals have exacerbated this sell-off, with a big unwind of cross-over investor positioning. Relative to 2013, we believe EMs are in a fundamentally stronger position in aggregate. The dislocation created as a result of the indiscriminate selling may also create new investment opportunities for investors able to adopt a flexible approach.

Colm McDonagh – head of Emerging Market Fixed Income. Insight Investment, a BNY Mellon company

Emerging market debt (EMD) has had challenging year-to-date performance, and investors are questioning whether this is merely a performance correction after a strong two-year spell, or the start of something bigger. There are some similarities between the current sell-off and 2013’s ‘taper tantrum’, with both influenced to an extent by Federal Reserve (Fed) policy normalisation. If this serves as a … read more

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Busting myths of EM debt

Emerging market debt issuers are often assumed to be inherently less creditworthy than their developed market counterparts, but in our experience the reality tells a different story.

For one thing, in recent years emerging market (EM) default rates have not been materially greater than those in developed market, (DM) and the formers’s bond covenant quality has also tended to be higher on average.

Within the high yield (HY) area of EM debt, fundamentals are also improving and default rates are expected to decline this year.

Comparing default rates for EM corporate HY issuers with those of their US equivalents since 2000, two observations are worth highlighting. First is the close similarity in trend between the two series which suggests global cyclical factors, rather than regional idiosyncrasies, explain a large part of the default experience for both EM and US corporate issuers. Second, the magnitude of default rate has been broadly similar across cycles, with 2002 the only meaningful exception in the period surveyed.

Similarly, when we consider EM Sovereign defaults we can see how credit events have become more of a rarity. Using JPMorgan’s Emerging Market Bond Index (EMBI) Global benchmark to represent the investable hard currency EM sovereign issuers accessible to international investors, only seven EM sovereigns in the index have defaulted since 2000. The adoption of flexible exchange rates, strengthened external balances, reserve accumulation and a move from external to local currency debt issuance go some way toward explaining this shift.

Rodica Glavan – Insight Investment, a BNY Mellon company

Emerging market debt issuers are often assumed to be inherently less creditworthy than their developed market counterparts, but in our experience the reality tells a different story. For one thing, in recent years emerging market (EM) default rates have not been materially greater than those in developed market, (DM) and the formers’s bond covenant quality has also tended to be … read more

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Is now the right time to seek value in EM debt?

While emerging market debt remains deeply unfashionable, we believe it may have now reached an inflexion point. A lot of people have lost money in emerging market currencies but the flipside of that is that the sell-off has created value. Yields are back to where they were in 2005 or 2009. For the first time in a long time we see the potential for being paid to take on risk.

Yields on hard currency government debt in some EM countries illustrate the point, even at the investment grade level. El Salvadorian government credit, for example, has yields at more than 8%; on Saudi Arabian quasi-sovereign debt they come in above 6%. For Ivory Coast they are above 7% while for Kazakhstan they are 6%.[1] There are good countries and there are bad countries. We believe the real cornerstone of emerging market investing is to question: am I sufficiently compensated for the risk I’m taking on?

Brazil and Russia are two countries where we believe current valuations could justify careful investing. If you consider Brazil, the selloff in 2015 was similar in scale to that of Russia in 2014. Both countries have huge problems. They’ve had credit downgrades, they’ve had a terms-of-trade shock from falling oil prices and they’ve experienced political or geopolitical upheavals. Our job as investors is to sift through the wreckage of the sell off and to ask ourselves whether we’re being paid enough to shoulder those risks. Now is the time to explore.

Colm McDonagh – Insight, a BNY Mellon company

[1] Source: Bloomberg as of 7 January 2016

While emerging market debt remains deeply unfashionable, we believe it may have now reached an inflexion point. A lot of people have lost money in emerging market currencies but the flipside of that is that the sell-off has created value. Yields are back to where they were in 2005 or 2009. For the first time in a long time we … read more

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Surprise victors of a falling oil price

There is a general misperception the fall in oil price is negative for all emerging markets. In fact many of these countries are net importers which helps improve their balance of payments. For net oil importers a high oil price is a potential headwind regarding the credit worthiness of the country. So when the cost of importing oil drops it is ultimately supportive of growth and acts as a positive in terms of trade shock.

Colm McDonagh, Insight Investment

There is a general misperception the fall in oil price is negative for all emerging markets. In fact many of these countries are net importers which helps improve their balance of payments. For net oil importers a high oil price is a potential headwind regarding the credit worthiness of the country. So when the cost of importing oil drops it … read more

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