‘Emerging markets crisis’? That’s a wildly overstated view, say our experts

Although evolving tariff policies threaten a trade downturn, investor uncertainty about US economic policies is a positive for emerging economies, argues Pendal’s emerging markets team

• Find out about Pendal Global Emerging Markets Opportunities fund

VOLATILITY in global financial markets increased further in April.

Notably this included US financial markets, with a general pattern of a weaker US dollar and rising bond yields.

Some analysts have described this as a “classic emerging market crisis”.

As veterans of actual emerging crises dating back to 1994, we consider that view to be wildly overstated.

In terms of actual market moves, US sovereign 10-year bond yields were highly volatile in March and April, but ended flat at 4.2%. US 30-year yields rose from 4.5% to 4.7%.

It’s particularly unusual that this came with a weaker US dollar.

The US Dollar Index (or DXY – a measure of the value of the USD relative to six other major currencies) fell 7.6% in the period while the broad trade-weighted index fell 3.9%.

There have only been four other occasions in the past 30 years when the US dollar fell by more than 1.5 per cent at the same time 30-year yields rose more than 10 basis points.

Those were during the Global Financial Crisis in February 2009, the European sovereign debt crisis of October 2011, the May 2013 taper tantrum and the first election victory of President Trump in November 2016.

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Yields on US 30-year Treasuries rose in the period, but the increased interest rate demanded by investors is not because of inflationary expectations as inflation-protected bond yields also ended the period higher.

There is a concept that, “when the US sneezes, emerging markets catch a cold”.

Given this volatility and weakness in core US financial markets, how did major emerging markets fare?

In March and April, the currencies of almost all emerging markets strengthened against the US dollar (the four Gulf states with US dollar pegged currencies have been excluded from this analysis, as has Greece which uses the Euro).

The strongest was the Hungarian Forint, up 8.6%, while the weakest was the Indonesian Rupiah, down by a marginal amount.

In addition, the bond yields (looking at local currency bonds with a maturity closest to ten years) of the majority of major emerging markets declined.

For the very biggest emerging markets, the combination of moves was particularly positive.

Brazil saw the currency gain 3.7% and ten-year bond yields decline 1.2 percentage points; in India those figures were +3.6% and -0.4pp.

Major exporters, despite the prospect of US tariffs, generally fared well.

Currencies strengthened and bond yields declined in Mexico (+4.8%, -0.1pp), South Korea (+2.4%, -0.1pp) and Taiwan (+2.9%, -0.1pp). China (currency marginally weaker, bond yields marginally higher) was the only significant exception.

We feel the best explanation for this seemingly confusing set of market signals is that some global investors are relying less on the US dollar and US sovereign debt as their risk-free benchmarks. While the US dollar was down 7.6% against major currencies, it was down 15.1% against gold.

Emerging markets are driven by two major global drivers: international capital flows and international trade.

A weaker dollar represents capital flowing out of the US and into the rest of the world – and a weaker dollar has consistently been positive for emerging markets over the past 30 years.

Although evolving tariff policies threaten a downturn in global trade, the message from financial markets is that investor uncertainty about US economic policies is a clear positive for emerging economies and for investors in emerging markets.

About Pendal Global Emerging Markets Opportunities Fund

James Syme, Paul Wimborne and Ada Chan are co-managers of Pendal’s Global Emerging Markets Opportunities Fund.

The fund aims to add value through a combination of country allocation and individual stock selection.

The country allocation process is based on analysis of a country’s economic growth, monetary policy, market liquidity, currency, governance/politics and equity market valuation.

The stock selection process focuses on buying quality growth stocks at attractive valuations.

Find out more about Pendal Global Emerging Markets Opportunities Fund here
 
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