Brave investors could enjoy an emerging-market moment
There are many positives, including firming currencies, buoyant bonds and an upbeat outlook for corporate profits
New Delhi — A roller-coaster ride in the third quarter has left emerging-market investors bracing for more swings in the fourth.
Yet that may turn out to be a buying opportunity — at least for those who can keep their nerve.
The outlook for corporate profits in the developing world is improving at the fastest pace since March 2017, making analysts the most optimistic in 14 years about future equity returns. Bonds are holding on to positive real returns too, despite the re-emergence of inflation, while currencies are beginning to benefit from broad US dollar weakness.
Put together, such positives offer a beacon of comfort for emerging-market traders just five weeks away from one of the most divisive US presidential elections in living memory. If they can stomach the inevitable gyrations of the final three months of 2020, they may come out of it in a position to benefit from the higher yields offered by emerging-market assets and the widely anticipated economic recovery in 2021.
“The fourth quarter is going to be a rough ride for markets globally,” said Simon Quijano-Evans, the London-based chief economist at Gemcorp Capital. But beyond short-term volatility, investors can expect, a “growth rebound, given all the central bank monies pumped into the system and, hopefully, global policy consolidation that will pave the way for more growth”, he said.
That may explain the prevalence of a clutch of optimistic market metrics, even after September’s sell-off.
For stocks, investors are betting on a 30% rally over the next 12 months, with the benchmark MSCI gauge expected to surpass its previous record level set at the height of a credit boom in the 2000s. The consensus forecast for the gauge increased by 24% in the past quarter, the biggest jump since 2006. Earnings estimates, too, have risen for a third month, posting the biggest quarterly increase since March 2017.
There’s still plenty to give pause. Equities may be about to notch up their second quarterly advance, but most of the gains happened in the first week of July — the market has drifted since. September saw the worst losses since the coronavirus-inspired market panic of March, erasing $612bn in equity value.
It’s a mixed picture for other assets. Expected currency fluctuations increased 14% in the past quarter, returning to March levels. The volatility spread between emerging markets and Group of Seven nations widened by the most in April. Still, September saw currencies outperforming stocks, signalling they are at last benefiting from the slide in the dollar.
With inflation inching up in developing nations, many central banks have stopped cutting borrowing costs. That’s helped to keep real rates — nominal interest rates minus inflation — for local debt positive after they turned negative in the first quarter.
Dollar-denominated bonds posted their first monthly loss since March, paring their quarterly advances. That, coupled with a quarterly increase in the cost of hedging against sovereign defaults, shows continued caution among investors. But the high-risk spreads also offer an opportunity for the bonds to rally once growth returns, Quijano-Evans said.
“The fourth quarter is likely to present itself as an opportunity for all those reluctant global pension funds to finally start increasing exposure,” he said.
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