Pioneer’s Yerlan Syzdykov does not see broad contagion in emerging markets

Yerlan Syzdykov, head of Emerging Markets, Bond & Yield at Pioneer Investments, does not feel that emerging markets face a broad based contagion, but do remain vulnerable to investors who are risk averse.

What are the reasons behind the renewed turbulence of Emerging Markets (EM)?

A combination of global and regional factors may be behind the current sell-off, notably involving EM bond markets. The main global factor is the US Federal Reserve’s tapering of monetary stimulus, long announced and now early in progress. The Fed wanted to be reassuring about the pace of tapering, which is unlikely to accelerate if domestic economic data are not overly strong. The latest labor market report was actually on the soft side of expectations. However, most
investors embracing the EM market in search of additional yields have already shown disappointment at evidence of an economic slowdown, which put some downward pressure on local currencies. The prospected end of cheap money –  the main “engine” of the search for yields, came alongside rising concerns for the “fragile fives” – South Africa, Turkey, India, Indonesia, Brazil – and their ability to
finance growth with foreign investments. Investors were probably not adequately prepared for country-specific fundamentals to move markets again.

What are the main country-specific issues?

There are a number of critical situations worth assessing. Turkey, with a current account deficit above 7.4%, is strongly reliant on external flows. The Central Bank
has just raised all its main interest rates at an emergency meeting in an effort to halt the currency run triggered by the recent political turmoil and concerns on the
country’s vulnerability. The action taken overnight is a step to restore credibility of the Central Bank in managing monetary policy effectively, keeping inflation rate
under control. Similar actions have been taken in India, South Africa and in Brazil, which raised interest rates for six meetings in a row. Argentina, with few reserves left to defend the currency, opted for a massive devaluation, and we believe that stability will be hard to restore for the peso. For its part, China should be in a better position but it, too, sparked some concerns about the health of the financial sector on reports that a trust fund (part of the “shadow” banking sector) was defaulting. The prospected bailout may save the day but is unlikely to provide a lasting relief as it does not dispel the threat of other similar incidents. Last but not least, there has been an increased supply of new issues weighing on the market just as investor’ risk appetite fell. Given all these factors, investors are asking for higher risk premiums and we can’t rule out that a repricing of the asset class may continue in the coming months.

Do you believe an extended correction will lead to a contagion?

We do not believe that this price correction will result in a broad-based contagion like in past times, as the EM landscape is now far from uniform. In the medium term, we believe the market will reward countries with solid external positions
starting from China which accounts for a large part of EM GDP and is also a very high-profile investment case as we know. Then we should apply a thorough selection process and find countries which have sound economic policies in place, (some Eastern Europe countries for example), but may be indiscriminately hurt by a risk-averse scenario. However, in the short term, it’s hard to see the market focusing on fundamentals so I’m afraid we expect volatility to stay high especially
on currencies. This may create some buying opportunities, for active risk-takers, on a medium term horizon.

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