- Standard Chartered assesses the current credit crunch triggered by the crisis in the US leveraged loan market, and considers whether it signals a sea change for the global economy. “Markets had not priced sufficiently for risk, and it is in this context that the current volatility in credit and other markets should be seen, and hopefully not viewed as a surprise,” the bank notes. Still, the research team worries that there is now a significant possibility of a slowdown in the US, which will cause tighter credit conditions globally. As evidence, it notes that the yen’s stronger performance against the dollar signals an unwinding of the carry trade and is a reflection of tighter global liquidity.
However, Standard Chartered notes the dangers of forecasting a sustained financial market downturn, because previous bouts of risk aversion in recent years have not affected the real economy. “Most periods of higher risk aversion have proved short-lived, precisely because it has been clear that growth prospects remain good and that liquidity is ample. Thus, predicting the turning point is still linked to anticipating either the global downturn after the recent boom, or the liquidity tightening.”
Commerzbank also emphasized this caveat, and expected emerging markets to remain comparatively resilient once the short-term repricing of risk has concluded. “The move in EMEA FX has not been too disorderly compared to that in credit spreads. We do not anticipate the gyrations of subprime and US credit to result in an increase in default risks across EM and expect this sell-off to evolve into another buying opportunity for a fundamentally strong asset class.”
In fact, UBS argues that, because the fallout from the global credit environment does not correlate with emerging equity market fundamentals, investors should use this time of market weakness as a buying opportunity. Prospects are compelling because corporate borrowing has been limited, whilst valuations compared to earnings are competitive, it argues. The bank’s model portfolio is most overweight Brazil and Taiwan and has increased exposure to Turkey and South Africa to overweight. . However, following a strong performance, UBS believes Korea’s relative value is less obvious, and downgrades its recommendation on the market to neutral. “Our valuation model now shows India and China as the least attractive markets.”
- Danske Bank analyses how strong inflationary pressures are posing challenges for the monetary authorities across emerging markets. Rising wages and supply-side factors such as food and energy price rises have caused local inflation to surge, but central banks face a dilemma because the benign global conditions appear to be changing.
It argues that tight monetary conditions will prevail in the medium-term. CEE countries that have free-floating exchange rates will hike interest rates, and emerging Asian countries will use revaluations of their managed currencies to tighten monetary supply.
Danske goes on to say: “there is ample room for such actions as most emerging Asian currencies remain undervalued and most emerging Asian countries run substantial current account surpluses.”
In this context, Danske claims investors should position themselves for higher interest rates and yields in CEE countries and stronger currencies in Asia and Russia. They add: “one should certainly also begin to be more careful with long positions in high-beta carry trades, which are beginning to look more and more stretched.”