Emerging markets roundtable: An uneven recovery

Our expert panel discusses what the uneven recovery across emerging markets means for investors, whether there is a crisis looming, China as an asset class, ESG challenges and more. Chaired by Alex Rolandi. Emerging markets roundtable Jun 2021 Ramon Spano (Fund of funds manager, Azimut Capital)
Heinrich Slabber (Senior partner, Holborn Assets)
Hitendra Varsani (Executive director, Index Research, MSCI)
Xiadong Bao (Emerging market equity manager, Edmond de Rothschild Asset Management)
Mirko Cardinale (Head of investment strategy and advice, USS) Funds Europe – Flows into emerging markets bounced back in April, buoyed primarily by debt. Looking forward, can we expect this resurgence to continue? Also, what are the main causes for concern when investing in developing countries at present? Mirko Cardinale, USS – There are a number of concerns when we think about emerging markets. Emerging markets are not a very homogeneous group – they are very different, so you have to be selective. Excluding China, there are many different issues across emerging markets. Across the board, there are short-term concerns because the way emerging markets can respond to the challenges of Covid are different from developed markets. They have less tools to work with, the ability to run big budget deficits is limited, and some emerging markets have been hit particularly hard by the pandemic, such as Latin America and India. Strategically, though, they are more resilient now than they have been in the past: the macroeconomic fundamentals are better than they have been in other periods, despite the short-term challenges. Ramon Spano, Azimut Capital – They are still perceived as quite a volatile asset class. However, when you approach them, you have to think in terms of risk-adjusted returns. That still scares institutional investors in the world. Although on the debt side there are very good opportunities, volatility still tends to put people off. China is another story. It’s a big chunk of the benchmarks, about 37-38% of the global emerging benchmark, and Asia as a whole is about 75-80% of the benchmark, so that means what China does is going to affect the global emerging markets anyway. In the short term, geopolitical risk is also still an issue but it’s not being talked about yet – I can’t see it on the flows. Heinrich Slabber, Holborn Assets – Investing in emerging markets will probably remain for the foreseeable future a value search. In the last eight or nine months, we came out of the crisis in April, the market started moving up, the big companies caught up first and then people started looking for value. Looking at the FX side of things, in South Africa, our currency probably acts as a proxy sometimes for some emerging market currencies because we are easier to trade and we have better systems and liquidity than some others – but it’s still a value search and speculative trade rather than a real investment, used while the commodity curve is going up, while everything is recovering. For now, at least, there are still too many fundamental problems in emerging markets for it not to be speculative. Hitendra Varsani, MSCI – Usually during different stages of the economic cycle, when there’s an upturn, emerging markets are seen as high beat and usually outperform. This time has been different. All the emerging markets have underperformed, but there are pockets that have outperformed the broad market, such as small-cap. Emerging market Emea has outperformed as well, beating Asia EMs and Latin America as well. Country-wise, China has probably been the biggest laggard and actually delivered a negative return year-to-date of around between 80 bps and 2%. During economic recovery periods, value stocks/small-cap stocks typically outperform, that’s happened in developed markets but that’s also happened in EM as well, and then you’ve got that regional dispersion due to the differences in vaccine rollout. Xiadong Bao, Edmond de Rothschild Asset Management – The vaccination campaign across the emerging market landscape has been so unsynchronised across different countries. You have places like Chile with a high vaccination rate, China still has strong restrictions on the border, while India has a second wave, setting the scene for a different pace of recovery. The different pace of recovery changed the settings a little bit versus the developed market. With a stronger dollar, from the FX point of view, it will be a little bit more challenging for investors to diversify more into emerging markets. From the fixed income side, we see some flows coming back into local currency debt, and most of it is going to China because the Chinese yuan remains exceptionally resilient now. Overall, investors have a different outlook now than the start of 2021. If it is an uneven recovery, it will be hard to be super-bullish as we were earlier in the year. Spano – Chinese bonds are another story as well. All institutional investors know how resilient they have been, especially during the crisis throughout February/March 2020. One thing that we are hearing from fund managers is that for 40 or 50 years, we never had an alternative to the dollar. We tried with the euro, but the fact that we didn’t create a euro bond meant institutional investors worldwide didn’t like it. The euro was not an alternative in terms of value. Institutional investors see the bond market in China is growing a lot, flows are coming, benchmarks are increasing their weight to Chinese bonds. It may be too early now to say they are perceived as an alternative to the US dollar, but it could be the case in the next ten years. Cardinale – The renminbi should have a bigger role, even from a neutral standpoint, in currency allocation. Interest rates are a bit higher in China, where they are close to zero everywhere else. The Chinese bonds market is one of the biggest in the world and is underrepresented in bond indices. Having more allocation to China makes sense from that perspective, plus Chinese bonds still offer decent yields compared to the developed world. The only caveat is that, when pension funds like us think about global bond exposure, they want bond assets that are very correlated to liabilities. In our case, liabilities are effectively long-dated gilts. From that perspective, Chinese bonds are slightly less attractive because the Chinese monetary policy cycle is quite different from the rest of the world.


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