Without a doubt, emerging markets haven’t experienced the type of volatility that they did in the first quarter of 2018 since the last few months of 2015 and initial months of 2016.
Indeed, let’s not hope that the first quarter of 2018 is anything to go by for the remainder of the year, as we could well be in for a bumpy and painful ride in the next nine months for emerging markets and the global economy. Extremely difficult to say how things will turn out; still early days.
EM Credit has shown signs of frailty and weakness, and from this point, the cracks can either become exacerbated or simply get patched up. The fragility was brought about by the global sell-off and not due to any idiosyncratic risk.
At this juncture, with markets clearly and inevitably hanging by a thread, the US economy showing some signs of weakness and central banks slowly beginning to unwind their monetary policies, we could be in for an interesting ride ahead. Yet emerging market economies remain robust and resilient, given their strong fundamental positioning. The backdrop in EM economies is benign, both for equity and credit assets, but what is going to be key is the tone and communication of the leaders of the world’s largest economies.
Going forward, it is going to get extremely burdensome to gauge or predict how this tit-for-tat between two economic power horses in the likes of the US and China (in the form of a so-called trade war) are expected to impact economies, companies and emerging markets in general in the months to come. What is expected to be extremely challenging for the EM investor is grappling with the potential escalation of the whole situation; whether it will remain confined and controlled or whether it will impact the greater scheme of things.
This morning we were woken by the news that China’s Xi seems to be more accommodative by pledging for an open economy and possibly cut tariffs this year. Indeed, an informal handshake to Trump who, a few days ago continued his aggressive stances in terms of tariffs. Markets have welcomed the news very warmly, including EM assets classes.
Clearly this continues to enforce our recent arguments that, when you have an asset class such as EM Credit that has better return potential, is cheaper and actually has better fundamentals than its developed peers, the backdrop remains supportive and EM should withstand volatility better than its peers in the months to come.
We remain concerned, however, that volatility may increase in the developed world as central banks reduce their balance sheets through the unwinding of their 5-7 year long accommodative monetary policy. On the flipside however, strong emerging-market economic growth may tempt investors. Let’s not forget that EM economies never did any form of QE on the scale that the US, UK, Europe and Japan did. We still believe that overall EM will still offer investors decent returns for the risk being taken.
Disclaimer:
This article was issued by Mark Vella, investment manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt. The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.