Emerging markets face a period of turbulence and “asset price volatility” as global liquidity conditions tighten, and investors will need to be discriminating over how they allocate their portfolios, according to the Institute of International Finance.
The Washington-based industry organisation representing 360 of the world’s leading banks and other financial institutions is forecasting that total net private capital flows to emerging market economies will fall to $418 billion this year from a record $480 billion in 2005, and that flows will continue their downward trend to reach $404 billion next year.
“This partly reflects an expected slowdown in global growth and investment activity,” the IIF said. Bond markets and banks will be responsible for the fall with commercial bank lending dropping to $90.6 billion this year compared with an expected $138.8 billion in 2005 and bond market investment falling to $67.7 billion against $107.1 billion Portfolio equity flows on the other hand are set to rise from $55 billion in 2005 to $57.7 billion this year.
Citibank president and CEO William Rhodes, who is also co-chairman of the IIF, recalled the sudden turbulence that erupted in emerging markets in the spring of this year. “In early April, we warned of the dangers of just such a development, as also did at the 2005 IMF/World Bank meetings in Washington,” he said. “We saw how negative shocks can swiftly prompt sharp corrections in these markets,” Rhodes said. “This episode can and should influence the actions of emerging market sovereign issuers and investors alike as they consider the period ahead, especially given the more challenging global economic environment that is developing.”
Greater emerging market asset price volatility is likely under these difficult conditions, Rhodes warned. “The May-June episode indicates that countries with high public debts and large current account deficits are especially vulnerable. Thus underscores the need for investors to better differentiate among emerging markets and assess whether policies are in place that will reduce the vulnerability of those countries to changing external conditions.”
In a separate statement, the IIF said that “global financial markets are delicately poised at this time, faced with a large measure of uncertainty about the future course of world growth, inflation and monetary policy.”