The emerging market bond sector is still thriving, especially in the recently strong performers of R...
The emerging market bond sector is still thriving, especially in the recently strong performers of Russia and Brazil. There has been something of a slowdown in investor interest on the back of expected US interest rate rises but unless the rise is sharp, the effect will be limited, according to managers.
Robin Hubbard, director and portfolio manager in the emerging markets bond team at F&C, says: "Investors have been buying emerging market bonds on the back of low interest rates in the US. Now it is anticipated that interest rates are on the rise there has been a sell off."
However, Larry Brainard, senior adviser for emerging markets research at WestLB Research, points out: "Even a doubling of the Fed funds rate over the next 12 months would have scant short-term impact on the finances of most countries in the emerging world: interest rates on new bond issues would go up and the overall costs of debt servicing would edge up over time, but given robust underlying growth, most EM borrowers would still see their credit worthiness indicators improve. There is nothing in this to suggest that access to global capital markets would become blocked for the major emerging market borrowers, nor that any debt crises are on the horizon."
Jerome Booth, head of research at Ashmore Investment Management, has a similar view. He says: "We do not see a rise in US interest rates to be a problem. Interest rates are at a 46-year low and no-one can say it is an issue when they are only at 2%. If they were at 8% it would be different. Over the next few months there will still be an acceleration of equity money in the emerging market bonds."
According to Booth, investors from mainstream economies are choosing to invest in emerging market bonds because of the volatility in the equity markets and the doubt surrounding their home markets.
Currently Booth is overweight in Brazil and Russia, although for very different reasons: Booth favours Russia because the investment grade for the country has improved and oil reserves have increased.
He says: "There has been strong fiscal performance and it has been resilient to shocks in the system. Corporate governance is improving, the country is politically stable and the banking sector has been reforming."
Brainard thinks Russia will benefit from rising world commodity prices for their exports. Data for the first months of 2004 confirm that rapid growth is continuing and if sustained, WestLB Research's forecast for this country will turn out to be on the conservative side.
According to WestLB Research, Russia's levels of public debt and international reserves reflect a strong ability to pay, more than would normally be necessary to secure across the board investment grade ratings. Although the reforms being launched will take a number of years to come to fruition, the government's commitment to reform will clearly provide a welcome push in the right direction. As this realisation sinks in, we expect to see future upgrades in the country's ratings and a rising level of foreign direct investment.
In Brazil, Brainard expects overall growth of 3.7%, up from -0.2%, driven in large part by the commodity boom that has boosted exports to record levels. Tight monetary policies in Brazil have been successful in curbing an inflationary bubble that emerged after the October 2002 elections, bringing inflation rates down to levels comparable with the average for the Latin American regions.
However, Hubbard thinks one area that is performing better in emerging market bonds has been floating rate and short duration bonds. This is because these types of bonds are less sensitive to interest rates rises.
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