Q What’s your overall assessment of the past year?
It was a positive year for investors in emerging market (EM) debt. While the path was far from linear the overall outcome was robust.
As we wrote in June, the US monetary policy tightening cycle came to an end before many investors expected, removing a key headwind for emerging market debt. This boosted local emerging market bond valuations via a rates rally that was sufficiently pronounced to counteract somewhat lacklustre EM currency performance.
There were plenty of positive stories during 2019. Key reforms progressed in Brazil. Egypt’s economy and asset markets continued to reap the rewards of recent reforms there. Russia’s economic strength and central bank credibility shone out. And Ukraine entered a positive new chapter after the election of a market-friendly leader.
That said, a variety of factors kept asset class returns from reaching their full potential. These included concerns over slowing global growth, oscillating trade tensions, and unfavourable political headlines within some emerging markets themselves.
Q How does the backdrop differ for 2020?
Similar to our colleagues in Developed Market Credit, we think some of the ‘global’ pressures that drove volatility in 2019 have eased, making for a more stable backdrop. And while the global economy is by no means at peak fitness, we think the number of health scares will fall in 2020.
Added to that, the relatively fragile economic backdrop could serve the asset class well. Already central banks in many emerging market economies have cut interest rates to shore up growth. They were prevented from doing so when US rates were rising, given the negative effect it would have on currency competitiveness. With the Fed back in dovish mode, emerging markets have more freedom to boost growth rates through accommodative monetary policy. We also expect some to continue to use fiscal policy levers in a prudent but effective manner.
Another key difference to the backdrop is a quieter outlook on the political front in emerging markets. Election-related headlines can cause spikes in asset class volatility, as illustrated starkly following the shock primary election result in Argentina in August. But 2020 has a relatively clear political calendar. For investors this means lower risk of election-related market wobbles, and greater certainty. For emerging market governments this presents an opportunity to carry on with the important work of reforming and strengthening.
So we expect a more benign backdrop for emerging market debt in 2020. Given this and valuations that still compare favourably to developed market assets, this paints a positive outlook for the asset class in our eyes. Similar to our Emerging Market Corporate Debt colleagues, we also see potential for demand for the asset class to rise as more investors recognise the valuable addition it can make to their portfolios over the long-term.
Q What changes do you expect within emerging markets?
There’s no question that what happens in the developed market world (not least the US) will continue to matter for emerging market debt. But it is easy for investors to underestimate the domestic drivers within emerging markets; we expect these to continue to gain in prominence.
Structural trends – such as China successfully shifting its economy away from a reliance on exports and toward domestic consumption-driven growth – should continue. As our colleague Wilfred discussed, US foreign policymaking is a further catalyst for change there. More broadly, the ongoing strengthening of many of these economies will also help intra-EM factors to continue to increase in importance as return drivers in 2020.
Q Which emerging markets will you favour?
We like economies where there is both the room to and desire for structural reform.
The emerging market universe is home to some compelling turnaround stories. Countries where we see good potential on this front include Brazil, Indonesia and Malaysia. While the path is never linear, as long-term investors we’ll be putting structural strengthening stories such as these at the heart of our portfolios.
Supplementing that and in recognition that in this highly diverse investment universe there will always be winners and losers, we’ll be looking for relative-value opportunities as they arise.
Emerging market: These markets carry a higher risk of financial loss than more developed markets as they may have less developed legal, political, economic or other systems.
All investments carry the risk of capital loss.