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Emerging Markets: Is there room for more upside?

Emerging markets (EM) were vastly hit at the peak of the global commodity crisis, yet a turnaround has somewhat been on the cards since the beginning of 2016. There is potential for further positive momentum, but what challenges lie in the way of a continued recovery?

2016 was a great year for emerging market high yield debt, closing 2016 withdiori gains of just over 17% as measured by the Bofa Merrill Lynch High Yield Emerging Market Corporate Plus Index. This was superiorly above its five year annualised returns of 7.5%. Year to date the index performance has slowed but nonetheless returned 3.12%.

Brazil was the notable performer amongst EM countries, with substantial foreign direct investment into the economy, up 6% from 2015, on beliefs of positive economic reforms that will help drag the country out of its current recession, following president Rousseff’s impeachment.

The fact that Brazil has numerous resources for exportation, most of which are commodities, the recent recovery in commodities, notably oil prices, brings comfort to supporting Brazil’s large corporations, whereby Petrobras, for one, has benefitted of a recent ratings upgrade to BB- by S&P.

A fall back into an oil sell-off on the back of global abundance and the failure to curb production to sustainable levels as agreed to by OPEC, risks undermining the country’s positive upside gains and could trigger significant corrections across Brazilian bond issues operating in the energy space.

Mexico has also seen positive momentum in the final month of 2016, carrying over into the current year. The country was negatively affected by investor concerns of heavy sanctions on the country by then US presidential candidate Trump’s proposed policies. Though, it became evident, that companies with Mexican operations were oversold, paving the room for a recovery.

It remains unclear whether the momentum of a recovery will reach back pre-election levels. The concerns on Trump’s proposed fiscal policies aren’t as intense as they were back in November, though the approach towards investing in individual corporate names in the sector would undoubtedly require a thorough fundamental and sensitivity analysis to incorporate such proposed policies.

Russia is another EM country that has benefitted from investor optimism. A Trump presidency, created the possibility of lifted sanctions on Russian banks and businesses and the oil recovery also helped push the Russian Micex index to substantial gains to end 2016.

It is left to see what actions will be taken in the current year and how relationships evolve between Putin and the Trump administration. Like Brazil however, a fall back into an oil supply glut will affect a number of Micex consistuent names, notably Gazprom, one of Russia’s leading and government supported energy companies.

Finally China has the potential of taking the leading role from the US in the Trans Pacific Partnership agreement following the withdrawal of the US by President Trump. This would undoubtedly boost exports and contribute positively to the country’s GDP growth rate.

However, the recent credit bubble affecting the property market, the slowing growth rate in GDP and the significant investor capital outflows leave questions unanswered as to the confidence of a recovery, and policy measures to be undertaken, if any, in Asia’s largest economy.

On the whole EM have rallied towards significant gains and is in my opinion still an attractive region for investment. Though, as always caution and a reasonable investment basis should be carried out beforehand, preferably along with a technical analysis of the sector’s corrections and rallies.

This article was issued by Mathieu Ganado, Junior Investment Manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt .The information, views 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. 

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