Global Investing

Emerging markets; turning a corner

Emerging markets have been attracting healthy investment flows into their stock and bond markets for much of this year and now data compiled by consultancy CrossBorder Capital shows the sector may be on the cusp of decisively turning the corner.

CrossBorder and its managing director Michael Howell say their Global Liquidity Index (GLI) — a measure of money flows through world markets — showed the sharpest improvement in almost three years in June across emerging markets. That was down to substantially looser policy by central banks in India, China and others that Howell says has moved these economies “into a rebound phase”.

This is important because the GLI, which has been around since the 1980s, has been a fairly accurate leading indicator, leading asset prices by 6-9 months and future economic activity by 12-15 months, Howell says:

Weak liquidity has been the key reason why EM shares have underperformed for so long. More liquidity may now allow EM markets to catch up.

The picture isn’t perfect. CrossBorder’s Global Liquidity index measures currently at 47.8, where a number above 50 denotes expansion. But the number in emerging markets was a still-low 24.1 last month, though it was 20.4 in May and is up 8 points this year.

Ecuador: a successful emerging market?

A colleague of mine, Marius Zaharia (@MZaharia) interviewed Moritz Kraemer, Standard and Poor’s head of sovereign ratings for Europe, Middle East and Africa. (you can read the interview here) Kraemer offered this piece of advice to the African governments who are busily tapping bond markets these days:

    What I want to tell all those governments in africa is that you are not a successful market participant when you’ve issued your first eurobond. You are a successful participant when you’ve paid it back for the first time.   

A sound piece of advice. But where does that leave Ecuador which has a frequent history of default spanning three centuries? One might argue in fact Ecuador’s market strategy has been highly successful — not only has it avoided repaying creditors, it also seems adept at persuading them to part with more cash at regular intervals.

Anticipating the fallout from South Africa’s ratings reviews

South Africa is due ratings reviews this Friday. Chances are that the Standard & Poor’s agency will cut its BBB rating by one, or possibly even two notches.  Another agency Fitch has a stable outlook on the rating but could still choose to downgrade the rating rather than the outlook. What will be the damage?

There is undoubtedly a link between ratings and bond prices.  So a one-notch ratings downgrade tends to lead to roughly a 20 percent increase in bond yield spreads and credit default swaps (instruments that are used to hedge against default), according to calculations by JPMorgan. But in South Africa the lower credit rating may already be already reflected in asset prices — Panama, Brazil, Colombia, Philippines, Uruguay, Indonesia, and Romania carry lower sovereign credit ratings but boast lower CDS and dollar bond yield premia over Treasuries.  Russia and Turkey have lower average ratings than South Africa but their debt and CDS spreads  are roughly on the same level.

So a ratings cut is unlikely to trigger huge outflows from South African debt markets, says JPMorgan, which runs the most widely used emerging bond indices. In Brazil for instance, a well-anticipated  downgrade back in March did not lead to significant cash outflows from its markets, JPM points out:

Buying back into emerging markets

After almost a year of selling emerging markets, investors seem to be returning in force. The latest to turn positive on the asset class is asset and wealth manager Pictet Group (AUM: 265 billion pounds) which said on Tuesday its asset management division (clarifies division of Pictet) was starting to build positions on emerging equities and local currency debt. It has an overweight position on the latter for the first time since it went underweight last July.

Local emerging debt has been out of favour with investors because of how volatile currencies have been since last May, For an investor who is funding an emerging market investments from dollars or euros, a fast-falling rand can wipe out any gains he makes on a South African bond. But the rand and its peers such as the Turkish lira, Indian rupee, Indonesian rupiah and Brazilan real — at the forefront of last year’s selloff –  have stabilised from the lows hit in recent months.  According to Pictet Asset Management:

Valuations of emerging market currencies have fallen to a point where they are now starkly at odds with such economies’ fundamentals. Emerging currencies are, on average, trading at almost two standard deviations below their equilibrium level (which takes into account a country’s net foreign asset holdings, inflation rate and its relative productivity).

Ukraine and the IMF: a sense of deja vu

The West has just agreed to stump up a load of cash for Ukraine but there is a distinct sense of deja vu around it all.

Let’s face it – Ukraine’s track record on how it manages ts economy and foreign affairs isn’t great. This is the third aid programme Kiev has signed with the International Monetary Fund in a decade and two of them have failed. The IMF has its fingers crossed that this one will not go the way of the past two. Reza Moghadam, the IMF’s top European official, tells Reuters in an interview:

They seem to be committed, they seem to own this reform programme and in that sense I am optimistic

Braving emerging stocks again

It’s a brave investor who will venture into emerging markets these days, let alone start a new fund. Data from Thomson Reuters company Lipper shows declining appetite for new emerging market funds – while almost 200 emerging debt and equity funds were launched in Europe back in 2011, the tally so far  this year is just 10.

But Shaw Wagener, a portfolio manager at U.S. investor American Funds has gone against the trend, launching an emerging growth and income fund earlier this month.

It’s a great time to launch a fund if you have a long-term focus in mind. Emerging markets trailed DM in terms of performance for a while, peaking at end of 2010 so we are 3-plus years into a down market and period of significant underperformance.

CORRECTED-Toothless or not, Western sanctions bite Russian bonds

(corrects last paragraph to show that Timchenko was Gunvor’s co-founder, not a former CEO)

Western sanctions against Russia lack bite, that’s the consensus. Yet the bonds of some Russian companies have taken a hit, especially the ones whose bosses have been targeted for visa- and asset freezes.

Take state-run Russian Raiways. Its chairman Vladimir Yakunin, a member of President Putin’s inner circle, was on the sanctions list. He said he was flattered to be targeted but investors in his company’s dollar bonds are likely to be less thrilled. Russian Railways’ 2022 bond is now the cheapest quasi-sovereign bond in the emerging markets universe relative to its sovereign, Barclays analysts point out. The bond trades now at a 158 bps premium to Russia’s 2022 issue while the one-year average premium has been 114 bps, Barclays note.

Asia’s path to prosperity and investment opportunities

Investors have been worried about the effect of a Chinese slowdown on Asian emerging markets, but the long-term growth story is still intact, according to specialist investment manager Matthews Asia.

Consumption is one of the key areas of growth. Illustrating the divergence of Asian economies and their path to prosperity, here’s an interesting chart from Matthews which shows the standard of living of various Asian countries, expressed by applying Geary-Khamis dollars — the concept of international dollars based on purchasing power parity — to today’s Japan.

For example, the living standards of North Korea and Mongolia are at around that of Japan in the 1890s — when Japan and China fought in the Sino-Japanese war and Wilhelm Rontgen discovered x-rays — while China’s is equivalent of an early 1970s Japan and Malaysia and Thailand are a step ahead at the mid-1970s.

Liquidity needs to pick up in EM

Emerging markets have seen heavy selling in the past few months, with political and economic crises hitting the region’s currencies and asset markets.

The obvious question now is: Is all the bad news in the price?

London-based CrossBorder Capital, who publishes monthly liquidity and risk appetite data for developed and emerging economies, thinks not.

“It is probably too early to buy the EM sector right now, certainly not until liquidity picks up again,” Michael Howell, CrossBorder’s managing director, says.

Who shivers if Russia cuts off the gas?

Markets are fretting about the prospect of western sanctions on Russia but Europeans will also suffer heavily from any retaliatory trade embargoes from Moscow which supplies roughly a third of the continent’s gas needs  – 130 billion cubic metres in 2012.

After all, memories are still fresh of winter 2009 when Russia cut off gas exports through Ukraine because of Kiev’s failure to pay bills on time.  ING Bank analysts have put together a table showing which countries could be hardest hit if the Kremlin indeed turns off the taps.

So while Hungary and Slovakia depend on Moscow for over a third of their energy,  Germany imported less than 10 percent of its needs  from Russia while Ireland, Spain and the United Kingdom received none at all in 2012, ING’s graphic shows.  So while the main impetus for the sanctions comes from the G7 group of rich countries,  it is central and Eastern Europe who will be in the firing line.