WILD price swings this week upended stocks and bonds around the globe, but some of the historically most volatile markets are holding up better-than-expected compared with past global selloffs.
Since US markets reached a high on Jan 26, the S&P 500 index is down 10.2%. Emerging-market stocks performed better during much of the recent selloff. The MSCI Emerging Markets Index is now down 8.6% since Jan 26.
Bonds issued by companies and countries in the developing world started selling off last week, but by Wednesday the spread between emerging-market debt and US treasuries – or the extra yield investors receive for emerging markets – had narrowed back to levels in late January.
“It’s notable how restrained the negative reaction was this time,” said Sacha Tihanyi, senior emerging-market strategist at TD Securities in New York.
Unlike during some previous global selloffs, where a government default or currency devaluation in Asia, Eastern Europe or Latin America weighed on global markets, “this time the volatility is coming from US markets”, said Katia Bouazza, co-head of global banking for Latin America at HSBC . “It’s not coming from some headline news in the emerging world.”
Investors also point to several positive factors that cushioned the blow. Global growth is on an upswing, a benefit for developing countries that export commodities or are manufacturing hubs.
The International Monetary Fund expects emerging economies as a whole to grow 4.9% in 2018, up from 4.7% last year, and more than double the growth rate in advanced economies. The European Union also said the near-term growth outlook for the developing world has improved, citing buoyant export and service-sector momentum in China and among commodities exporters.
Many emerging-market governments have been building up their foreign-currency reserves, which gives them extra financial flexibility. Stabilising commodities prices and a weakening dollar, which makes it cheaper for these countries to pay back dollar-denominated debt, have also helped.
“The emerging-markets environment remains positive, and we haven’t changed our exposure because of the selloff,” said Michael Reynal, chief investment officer of Sophus Capital, part of US$55bil asset manager Victory Capital.
After years of underperformance compared with the developed world, stocks in emerging markets remain cheap versus those in the US or Europe.
Companies in the MSCI emerging-markets stock index are trading around 16 times their past 12 months of earnings, as of Wednes-day, compared with companies in the MSCI USA index that are trading at 22 times their 12-month trailing earnings, according to Joe Gubler, portfolio manager at Causeway Emerging Markets Fund.
With many emerging-market shares relatively inexpensive, it was the pricier ones that sold off the most during this week’s declines, according to a Goldman Sachs Investment Strategy Group analysis of January valuations.
Two industries in the MSCI Emerging Markets Index – biotechnology and Internet and software services – were trading at levels that were expensive compared with their historic valuations.
A prolonged slump in US markets may yet take a more serious toll on emerging-market stocks and bonds, analysts say, and the market volatility has already been disruptive in pockets.
A bond sale Tuesday by Camposol SA, a Peruvian avocado, blueberry and shrimp farming company, was delayed because of market conditions, investors said. A Camposol official didn’t respond to a request to comment.
Two bankers said they had encouraged one government issuer and several companies that had started a bond-sales process to hold off pricing until volatility subsided. Any sales this week, one of the bankers said, would have had to offer between 0.10 and 0.15 percentage point more in yield than if they were sold before the big market-price swings.
Even without more big jumps in volatility, risks remain for emerging-market investors. Bonds from these countries have benefited from investors’ global search for yield when interest rates in the developed world are near historic lows.
But if the Federal Reserve responds to recent wage growth or other nascent signs of inflation by raising interest rates more aggressively than expected, that could start to slow the hunt for yield. Higher US rates typically drive investors away from emerging markets by making their bonds, stocks and currencies less attractive.
“The Fed continues to be a concern for the space and there are political risks in places like Mexico and Brazil,” said Richard Segal, emerging-market analyst at Manulife Asset Management, which manages US$383bil.
But Segal said the recent selloff hasn’t prompted the fund to change its portfolio. “It was a shock to the system,” he said, “but we see it as a temporary blip.”