EMs face headwinds from US and China

Standard Life Investments’ emerging market debt economist Nicolas Jacquier says that India is attractive, because cheap equity market valuations and the devaluation of the rupee is helping the export industry.

He adds: “We have rebalanced the emerging market debt portfolios more towards Asia, as we believe this region with its exporters will benefit from an uptick in the global manufacturing cycle from the US and Europe.”

Mr Jacquier adds he is not of the camp that believes there will be a hard landing in China. “We are encouraged by the reforms in China and believe there will be growth of 6-6.5 per cent over the next few years. The impact of China on emerging markets is exaggerated.”

However, he adds that any effect will be on specific countries, particularly those that export commodities to China, such as Mongolia and Indonesia, and export intermediate and capital goods to China, like Korea and Malaysia.

His confidence in China is reflected in adding to Indonesian bonds in the Standard Life Emerging Market Local Currency Bond fund.

He focuses on the pace of reforms, rather than the current deficits in themselves. Mr Jacquier says: “Indonesia has let its currency depreciate and interest rates have been hiked and there has been some improvement in its trade balance.”

Baillie Gifford emerging market investment manager Roderick Snell believes that large parts of Asia, including Indonesia and Thailand, will have a difficult time in the next 12 to 18 months, partly due to links with China.

“Tapering is bad for those countries that have large current account deficits that have funded rapid domestic growth with cheap foreign capital. A number of countries have been reliant on supplying raw materials to China, but growth is slowing.”

He adds: “Indonesia is particularly harmed by the slowdown in commodities, which accounts for two-thirds of their exports.” He notes that money is now flowing out of these countries and they will have to make sharp adjustments, which will be to depreciate their currency to reduce the deficit or slow-down their economy to correct the import/export imbalance.

Mr Snell notes that they have a large exposure to exporters, mainly through technology companies, with a large overweight in Korea and Taiwan. He says: “We own a number of high quality, globally competitive exporters, where a significant part of their goods goes to China feeding western demand.” The fund also has an overweight position in Indian IT outsourcers, where a weak rupee is actually beneficial, as the companies’ revenue is in western currencies, while their costs are in local currency.

Mr Snell says:“They will see expansion of their margins, as their costs come down and revenue goes up. You can find 10-15 per cent earnings growth and you’re paying the likes of 12x forward price-to-earnings.”

Bestinvest managing director of business development & communications Jason Hollands says that in the near term he is “very cautious” on emerging Asia. He says: “We’re in the midst of a very painful re-pricing of risk around the globe primarily as a result of tapering, but also due to Chinese monetary tightening.”

He says that US Treasuries being driven higher is “particularly traumatic for Asia, as the region has seen significant debt issues since 2008, but the cost of capital is now rising significantly.”

Lowes Financial Management investment analyst Paul Milburn says: “From an economic growth perspective investing in emerging Asian equities certainly appears compelling. The most recent data from the IMF projects that emerging Asian countries, as a whole, will enjoy GDP growth of 6.7 per cent this year, an improvement from 6.5 per cent in 2013. This compares favourably to advanced economies, where GDP is expected to increase from 1.3 per cent in 2013 to 2.2 per cent in 2014.”

Joanne Ellul is a freelance journalist