Until early August, flows into emerging market bond funds seemed unstoppable. EM bond funds reported a $20.38bn net inflow since the beginning of the year up to that point, including a streak of 19 weeks of net inflows. Despite potential contagion through trade flows and foreign investments, investors appeared to ignore the eurozone debt troubles, seeing EM bonds as a relative haven.
Inflows had been affected only by large scale events directly related to the emerging markets, such as the political and social unrest in the Middle East and North Africa region and even then the flows only turned negative for a few weeks as investors began to differentiate between countries within the area.
"The argument that fundamentals are good in these countries remains," says Spencer Maclean, head of syndicate, west, at Standard Chartered in London. "Some emerging market countries are resource rich, especially those in the Middle East and so these countries are continuing to perform well, even throughout the eurozone and Middle East crisis.
"Due to their solid infrastructure, resource and asset wealth, many sovereigns and state owned enterprises are very much seen as safe havens. Bahrain, for example, is now trading well inside Spain."
Bahrains five year CDS was trading around 275bp in mid-August and Russias at 186bp. France was trading at around 149bp and Spain at 346bp.
Those with faith in the emerging market story of low debt and high growth have been well rewarded this year. Bonds have performed well and EM bond fund assets under management have risen to $129.3bn from $105.3bn since the start of the year, according to data from EPFR Global.Yields of the strongest companies and sovereigns have compressed, and for the first time since 2008, risk appetite has returned and, with it, a greater variety of companies and banks willing to tap the Eurobond market. Credits that had been shut out in 2009 such as Kazakhstans banks returned to the market. And there was greater activity from some sovereign names. The Republic of Hungary, for example, sold around $5.7bn equivalent of bonds this year, having been forced to take an IMF, European Union and World Bank bail-out package in 2008 (see profile on p32).
New names also appeared on the scene, such as the wave of debut issuers from the Ukrainian agricultural sector, including Avangard and Mriya, and the development of the Turkish bank market, with Akbank, Isbank, Yapi Kredi, Garanti Bank and Finansbank all tapping the market with ease.
The variety of issues was digested well, and even those names that initially underperformed crept up throughout the year as primary flow remained measured but inflows to funds stayed strong.
The loan market too has been vibrant over the last year, with record sizes and pricing for Russian banks. Most notable was VTB completing the largest ever CEE bank loan, at $3.13bn, though VEBs $2.45bn and Sberbanks $2bn loans were also impressive.
Pricing in that market tightened throughout the year and, like the bond market, seemed unaffected by the uncertainty in the eurozone and the US the only deals to struggle in syndication were notes for subsidiaries of western European banks. The success of the sector this year has also been punctuated by the announcement of firms expanding operations within the sector, such as JP Morgan moving into South African corporate business and Bank of America Merrill Lynch hiring an EM lending specialist.
In short, the year has been triumphant for EM. Many joke that to lose money in this asset class in 2011 so far would have been difficult. But the year ahead looks more difficult.
The middle of August saw the first two weeks of net outflows for EM bond funds this year as the eurozone debt crisis deepened and investors finally absorbed the potential contagion effects of a global double dip recession. The outflows were moderate, however, at between $300m and $400m a week. But they made EM look less invincible, despite bankers insisting the primary market could be rejuvenated in September.
"Even with the recent severe spikes in volatility and significant dislocations in many markets, we have not observed material forced selling of credit from real money dedicated EM investors, partly as they had built up large cash positions in an environment where outflows have been, to this day at least, fairly limited," says Alan Roch, head of CEEMEA bond syndicate at Royal Bank of Scotland in London.
"When stability returns again in global markets, even for short periods of time, we will see successful new issues from EM come to market, and we think this will happen soon. However, with many issuers sovereigns in particular being well funded for the year, we are not anticipating a rush to print."
Several analysts say that even in extreme circumstances they would still expect emerging markets to continue to outperform the rest of the world. Not all are so hopeful though, and the primary bond market spent July and August in limbo.
September, typically a busy month for emerging market borrowers, is being approached with hesitancy. Some syndicate officials suggest that a reset button has been hit on the start of the year, and that it will again be the strongest issuers that have to re-open the market. But if they manage to do so, investors and issuers will certainly be hoping for a repeat of the conditions seen in the first six months of the year.