Emerging Market Assets Plunged After Trump Won. This Year They've Been On a Massive Tear.By and
Spread between EM debt and Treasuries near lowest since 2014
Pictet says emerging stocks a buy, joining bulls at BofA
Wall Street’s love affair with emerging-market bonds is coming to an end, but the passion for stocks is unabated.
BlackRock Inc. cut its recommendation for developing-nation debt to neutral this week as it reiterated a bullish view on equities, joining strategists at JPMorgan Chase & Co. who prefer shares to fixed income. Goldman Sachs Group Inc. says a pickup in global growth favors stocks.
Both asset classes are enjoying their best start to a year since 2011, buoyed by the idea that the initial doom-and-gloom reaction to Donald Trump’s election was overdone considering that his economic policies -- particularly his threats of protectionism -- appear to still be in flux. Now investors are counting on faster global growth and a pickup in earnings to send developing-nation stocks even higher, but say valuations on emerging-market bonds are already rich and a likely increase in U.S. interest rates will be a drag.
"The tide had been in favor of debt for so long and now we’ve very likely seen a sea change," said Tim Ghriskey, who oversees more than $1.5 billion as chief investment officer at Solaris Asset Management in New York. "Emerging-market debt is probably something to avoid at this point or limit your exposure or stay on the low duration. On equities, you still want to be selective, but generally we think exposure can be increased.”
That optimism was missing in the immediate aftermath of the election. The MSCI Emerging Markets Index of stocks plunged 7 percent in the days after Trump won office, while a Bloomberg gauge of corporate debt from developing countries posted the worst selloff in three years.
Investors were panicking at the idea of Trump making good on his promise to put “America First,” anticipating a slew of trade barriers that would damp exports, send the dollar soaring and -- to the biggest pessimists -- possibly lead to a global recession.
Those concerns abated in the weeks after the election, and while some analysts and investors say assets seem to be underpricing the risk of Trump’s trade policies, others focused on several bullish signs for both emerging-market stocks and bonds. They cite the pickup in global growth forecasts as the euro-area economy is rebounding amid stimulus programs and a pullback in the dollar following concern a stronger greenback was threatening to imperil developing nations’ competitiveness.
Traders were also encouraged by higher prices for the commodity exports that many developing nations rely on, and a better political outlook in some of the biggest countries. Turkey is stabilizing after a coup attempt last year, Russia seems likely to be under less pressure from a Trump administration and Brazil is pulling out of its worst recession in a century after its president was impeached last year.
“The protectionist threat is still legit, but questions remain about how strong it will be when or if it’s finally implemented,” said Steve Hooker, a Hartford, Connecticut-based emerging-market money manager at Newfleet Asset Management LLC, which oversees $12 billion. “Growth appears to be bottoming thanks to the easing recessions in Brazil and Russia. China data has been generally OK, commodity prices are supportive and U.S. rates and the dollar have not been the straight shot higher that many were expecting.”
Emerging stocks have outperformed developed peers last year for the first time since 2012 and now trade near the highest level since September. Strategists at Pictet Asset Management this week upgraded the asset class to a buy, joining bulls at Bank of America Corp. Some $600 billion in market value was added to stocks in the biggest developing markets last month.
Corporate profit estimates are rising twice as fast as forecasts for developed-market peers, leaving emerging-nation equities trading at 12.1 times estimated earnings, compared with 16.4 for stocks in advanced economies. That signals to bulls that valuations have more room to rise.
Valuations for bonds look a bit more stretched, especially amid concern that quicker economic growth in the U.S. will lead to faster interest-rate increases that will lure funds from riskier assets. The spread between yields on emerging-market sovereign notes and Treasuries is the lowest since December 2014, when a currency crisis in Russia sparked a selloff in riskier assets.
BlackRock cited high valuations when it cut its recommendation on developing-market debt in a report dated Feb. 6. While it looks appealing long-term, “strong post U.S.-election performance versus other risk assets makes us cautious,” BlackRock’s chief investment strategist Richard Turnill said in the note.
Anders Faergemann, a London-based senior sovereign portfolio manager at PineBridge Investments, voices a similar concern.
“Emerging-market debt spreads are at a two-year low so valuations are stretched, which makes us cautious looking ahead,” Faergemann said. His Global Emerging Markets Local Currency Bond Fund has outperformed 78 percent of peers in the past 12 months.
Trump’s victory has sparked a surge in reflation bets, the idea that inflation is going to pick up. His comments that long-awaited details on promised tax cuts were upcoming gave a boost to the wager Thursday as equities in Europe and the U.S. rallied and Treasuries fell.
“An environment with stronger growth may cause investors to rotate out of fixed income and allocate more into equities,” Jane Wei, a strategist at Goldman Sachs, said in a note earlier this month. There’s “a friendlier backdrop for riskier assets such as EM equities.”
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