Jan. 7 (Bloomberg) -- Wall Street’s biggest banks say the slump in emerging-market assets that left equities trailing advanced-nation shares by the most since 1998 last year will prove more than a fleeting selloff.
Goldman Sachs Group Inc. recommends investors cut
allocations in developing nations by a third, forecasting “significant
underperformance” for stocks, bonds and currencies over the next 10
years. JPMorgan Chase & Co. expects local-currency bonds to post 10
percent of their average returns since 2004 in the coming year, while
Morgan Stanley projects the Brazilian real, Turkish lira and Russian
ruble will extend declines after tumbling as much as 17 percent in 2013.
While the economies of Brazil, Russia, India and China
symbolized the increasing power of the developing world during the worst
of the global financial crisis and delivered outsized returns, Morgan
Stanley says some of the same nations may now prove to be laggards as
the U.S. Federal Reserve scales back unprecedented stimulus and interest
rates rise. The MSCI Emerging Markets Index is down 3 percent this
year, compared with a 1.2 percent drop in the developed-market index,
and hit a four-month low yesterday as data from China showed weakness in
manufacturing and services.
“The world not long ago was so
mesmerized by the emerging markets without distinguishing the good from
the bad,” Stephen Jen, a partner at SLJ Macro Partners LLP who correctly
predicted the selloff in developing nations last year, said in a phone
interview from London on Dec. 18. “The cost of capital will start to
normalize and that’s when we see the truth being revealed in these
local-currency bonds returned 205 percent in dollar terms in the decade
through 2012, compared with a 58 percent gain for U.S. Treasuries,
according to data compiled by JPMorgan and Bank of America Corp. The
MSCI Emerging Market Index of stocks advanced 261 percent, outpacing the
69 percent rally in the developed-market measure.
domestic bonds in developing nations lost 6.3 percent, the most since
2002 when JPMorgan started compiling the data. The MSCI emerging-market
equity gauge fell 5 percent, compared with a 24 percent rally in MSCI’s
World Index, the biggest underperformance in 15 years, according to data
compiled by Bloomberg.
“It’s a structural de-rating that’s
taking place” in emerging markets, John-Paul Smith, a Deutsche Bank AG
strategist in London, said in a phone interview Dec. 18.
Developing-nation stocks will trail their peers in advanced economies by
a further 10 percent in 2014, he said.
The recovery in developing economies, which contributed to 65 percent
of the global expansion since 2010, is struggling to gather momentum as
exports grow at the slowest pace in four years. China, which buys
everything from Brazil’s iron ore and Chile’s copper, is facing the
threat of bank failures as local government debt increased 20 percent
annually since 2010.
While emerging markets are still
expanding faster than developed countries, the margin will shrink this
year to the smallest since 2002, according to Credit Suisse Group AG.
The growth rate in advanced economies will almost double to 2.1 percent
this year, while emerging markets expand 5.3 percent, compared with 4.7
percent in 2013.
Investors can still find value in developing
nations as they differentiate economies based on growth momentum,
inflation and balance of payments, according to Sara Zervos, who helps
oversee $15 billion in assets at Oppenheimer Funds Inc.
Mexico’s peso appreciated 14 percent against the Brazilian real last
year as President Enrique Pena Nieto opened the oil industry to private
drilling for the first time in 75 years. South Korea’s won-denominated
bonds returned 2.6 percent as its current account surplus reached a
“There will be a competition for marginal capital
flows,” Zervos said in a phone interview on Dec. 20 from New York.
“There will be winners and losers.” Investors should favor the Mexican
peso, South Korean won and Indian rupee, while avoiding the rand, real
and rupiah, she said.
Aberdeen Asset Management Plc and HSBC
Asset Management said valuations in some developing nations are becoming
attractive after the recent selloff.
The MSCI Emerging
Markets Index traded at a multiple of 10.3 times projected 12-month
earnings, compared with the 14.9 for developed markets, the biggest
discount since 2006, according to data compiled by Bloomberg.
Adithep Vanabriksha, the Bangkok-based chief investment officer for
Thailand at Aberdeen, says he is buying Thai stocks as valuations fell
to the lowest levels in 18 months. Rakesh Arora, the head of research at
Macquarie Group Ltd. in Mumbai and India’s most accurate equity
forecaster, says the S&P BSE Sensex will advance 13 percent in 2014.
“When people are running away, we are happy to get in,”
Guillermo Osses, who oversees $14.5 billion as the head of
emerging-market debt at HSBC Asset Management in New York, said in a
phone interview on Dec. 19. Osses said he’s buying the currencies and
short-term debt in Brazil and South Africa following their slumps.
The Fed said Dec. 18 that it plans to take the first steps toward
cutting the stimulus that helped fuel the credit boom across emerging
markets over the past five years, by reducing its monthly bond purchases
by $10 billion to $75 billion.
Even a small capital outflow
and increase in borrowing costs will have adverse impacts on governments
and companies in developing countries as debt levels increased,
according to Morgan Stanley.
amounted to 1.25 times earnings before interest, taxes, depreciation and
amortization for companies in the MSCI’s emerging market gauge, up from
0.68 in June 2009, according to data compiled by Bloomberg. Average
borrowing costs for developing-country governments jumped to 6.96
percent on Jan. 2, the highest since Mach 2010, according to JPMorgan’s
GBI-EM Diversified Index.
“We’re at the mature end of the
credit cycle in emerging markets, which suggests we may see increased
financial-sector and fiscal risks, which are not priced in by the
markets,” Rashique Rahman, co-head of foreign-exchange and emerging
market strategy at Morgan Stanley in New York, said by e-mail on Dec.
Morgan Stanley recommended investors reduce holdings of
emerging-market currencies and bonds on Dec. 3, saying the developing
world “faces the challenge of regaining a decade of lost
competitiveness.” The bank labeled Brazil, India, Indonesia, South
Africa and Turkey as the “fragile five” in August, because of their
reliance on foreign capital.
Sachs advised clients to cut their emerging-market allocation to 6
percent from 9 percent, citing the lack of economic reforms to improve
growth, CNBC reported on Dec. 22. Leslie Shribman, a spokeswoman for
Goldman Sachsin New York, confirmed the report without commenting
JPMorgan expects a return as low as 1 percent for
local-currency bonds this year, compared with an average gain of 10
percent over the past decade, according to its 2014 outlook report.
As economies in developing nations slow, political and social tensions
are flaring. The Thai baht tumbled to a three-year low on Jan. 2 as
anti-government protesters attempted to force Prime Minister Yingluck
Shinawatra out of office.
Turkey’s stock benchmark lost 28
percent in dollar terms last year, the worst performance after Peru, as
the current-account deficit widened and a corruption probe ensnared
Prime Minister Recep Tayyip Erdogan’s cabinet and led to three
Ukraine, protestors took the street last month as President Viktor
Yanukovych backed out of a trade deal with the European Union in favor
of closer ties with Russia.
Debt levels are increasing as
incumbent governments increase spending to win voters, according to
Citigroup Inc. Public debt in emerging markets rose to more than 40
percent of their gross domestic product in 2013, the highest since 2006,
Citigroup data show.
“Emerging markets will probably find it
difficult to sustain the steady improvement in sovereign
creditworthiness that has helped to define the asset class since 2004,”
David Lubin, the head of emerging-market economics at Citigroup, wrote
in a note on Dec. 2.
To contact the reporters on this story: Ye Xie in New York at email@example.com ; Ksenia Galouchko in Moscow at firstname.lastname@example.org ; Kyoungwha Kim in Singapore at email@example.com
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