Global economic growth will slow to 3% in 2005 but emerging markets are well prepared due to good macroeconomic fundamentals and demand for EM bonds, according to Fitch Rating’s agency. US interest rate hikes, high oil prices and the economic development of China are the main risks to the asset class.
The five countries most exposed to a sharp rise in US rates are Turkey, Colombia, Ecuador, Uruguay and Brazil, according to Sharon Raj, director at Fitch. This is due to these countries’ high dollar-denominated debt. If US rates rise sharply then servicing costs for this debt would increase. All five countries are dependent on access to the international capital market and have little support from their domestic markets.
Taiwan, Malaysia, China, South Korea and Iran were cited as the five countries that would be least affected by a US rate hike. “These countries have a modest debt burden and a solid external position, which means that they would not be affected by a temporary market closure,” said Raj.
A sudden economic slowdown in China would have a big impact on commodity prices and commodity producers, but Raj reckons the Asian nation won’t experience a hard landing – a drop in growth of 3%-4%.
In general, she sees a stronger economic climate across the developing world. “Improved credit fundamentals mean that emerging markets can cope much better with tougher [external] conditions,” she says.
“But emerging markets get hit hardest when investor sentiment changes, much harder than high yield assets,” she adds. This was the case in May 2004, when a rise in US interest rates led to investor flight from emerging markets.
Sovereign issuance from emerging markets stands to remain flat at $61.6bn in 2005. This figure is slightly distorted as Poland is expected to raise an additional $9bn to cover its pre-payment of Paris Club debt. “Not including Poland’s extra issuance, sovereign financing needs are $9bn less this year,” says Raj.