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A mid-Fed cycle correction

After an unusually volatile period for assets in the emerging market (EM) complex, GAM Investments' Enzo Puntillo explains why he remains optimistic about the outlook for EM debt.

Thursday, June 14, 2018

We do not see the recent rise in credit premiums and currency weakening as a sign of deterioration in EM fundamentals. We rather think that the gradual escalation in US interest rates and a stronger US dollar constitute significant headwinds for the entire asset class, and the market is focusing specifically on these factors. Additionally, the uncertainty surrounding the recent Italian election has further increased the extent of risk aversion among global investors.

When it comes to emerging markets, however, we see current price movements as a "mid-Fed cycle correction" with an upward adjustment in market expectations relative to Fed forecasts. It is important to review the selloff in a context in which sentiment and positioning towards the asset class had been excessively positive. However, we are and will maintain a more cautious stance towards countries such as Turkey, which have been very tardy in addressing the underlying issues - only time will show if the political will required to improve the situation truly exists. The same cannot be said of Argentina, where multiple supportive measures have been implemented immediately.

Therefore, we see this correction as an opportunity to enter / increase exposure further in different countries. Similarly, this could also prove a viable entry point for investors who have no exposure to the asset class or for those wishing to add to existing positions.

Current account in % GDP

Source: Bloomberg, GAM, Datastream (most recent data available)

Past performance is not an indicator of future performance and current or future trends.

Overall, we base our optimistic assessment on the following three main observations: First, the fundamentals of these countries have improved significantly in recent years. Many have managed to reorient their economies. After some difficult years, with shrinking current account deficits and declining credit growth rates leading to declining GDP growth, most economies are now reaping the benefits of the countermeasures they have taken (as illustrated above).

Second, the total of current account balances and foreign direct investment are positive overall, which should make the asset class less dependent on speculative investment flows over the medium term.

Basic Balance (Current Account + FDI) in % of GDP

Source: EIS, GAM, Datastream (most recent data available)

Past performance is not an indicator of future performance and current or future trends.

Third, the already favorable valuations have become even cheaper in various hard and local securities with a running yield in both segments of around 6.5% on average.

It seems almost certain that we will see some further volatility in the market in the coming weeks, and we will seek to use the associated price movements to harness additional opportunities at compelling valuations.

Important legal information
The information in this document is given for information purposes only and does not qualify as investment advice. Opinions and assessments contained in this document may change and reflect the point of view of GAM in the current economic environment. No liability shall be accepted for the accuracy and completeness of the information. Past performance is no indicator for the current or future development.