RATE HIKES
Also looming on the horizon are probable interest rate hikes by the Fed. Pictet Asset Management senior product specialist, emerging market equities, Kiran Nandra says that with an interest rate rise against a positive backdrop of the global economy looking in good shape, she does not see this as a negative on emerging markets.
“Many emerging countries are in a stronger fiscal and current account position than, for example, 20 years ago or during the Asian financial crisis. In addition, there are fewer currency pegs, meaning an additional buffer on top of the stronger macro positioning.”
She points out that for countries that do have a current account deficit, such as India, this is often being financed by foreign direct investment, meaning that there is less sensitivity to what’s traditionally been a more volatile source of financing. Jackson is equally sanguine: “There is a common misperception that emerging markets suffer when the Fed tightens.
“However, our analysis suggest that emerging market assets tend to continue producing positive returns during Fed tightening cycles,” he adds. “In particular, EM currencies show no consistent tendency to suffer during Fed rate hike periods (the movement of commodity prices is far more important).
“The performance of emerging market assets since the Fed started raising rates in December 2015 supports our confidence,” he adds. “This said, at some stage the US economy will dip into recession and that will be a threat to global “risk-assets” and emerging market assets still fall into that category.”
Douglas Reed, global strategist, emerging and Asian equities at Newton Investment Management, warns: “The possible direct threat is whether or not the tightening of US monetary policy leads to a rise in the dollar and a depreciation of emerging market currencies, which then for a variety of reasons ultimately results in EM equity markets underperforming on most occasions.”
But Stocker adds that a moderate rise in rates will continue to give countries time to repair fiscal deficits, and/or allow controlled currency depreciation. “A number of governments in emerging and frontier markets have taken action, beginning before the taper tantrum [2013 surge in US treasury yields] and continuing through to today. However, more work needs to be done.”
He forecasts that if investors begin to expect the pace of reserve rate increases to accelerate, the most vulnerable countries, like Turkey, will immediately face financial market stresses. “However, countries which have not yet fully addressed economic imbalances, such as the decades-long mis-allocation of capital in China, could face increased capital out-flows, a loss of business confidence, or even a financial cycle as market participants withdraw liquidity.”
