Download policy impact: emerging market opportunity

POLICY IMPACT: EMERGING MARKET OPPORTUNITY
One of the hallmarks of the millennium is that we now live in a global society in which one
country’s challenges or advances can impact others — often in ways you wouldn’t expect. For
example, sustained low interest rates in the U.S. have positioned some emerging markets (EM)
for stronger asset prices and the inflow of foreign capital. However, EM opportunities depend
on the fundamentals of each country and their respective monetary and fiscal policies.1
Policy Changes
The U.S. has experienced exactly one interest rate change in seven years, currently in the 0.25
percent to 0.5 percent range. Despite forward guidance indicating interest rates would likely
increase this year, the Federal Open Market Committee (FOMC) decided to put those plans on
hold this summer after weaker-than-expected domestic growth and the U.K.’s “Brexit” vote to
leave the European Union.2 Likewise, monetary policies in developed nations throughout the
world have made it easier and cheaper to borrow money.1 These sustained low interest rates
tend to make emerging market bonds and currencies more attractive to investors.3
Growth Prospects
The World Economic Forum’s (WEF) most recent projection sees global growth declining to 3.1
percent for the rest of 2016, but moving back up next year to 3.4 percent. The good news is
that sustained low interest rates in the U.S. and other developed countries bode well for
emerging markets. In fact, with a projected 4.2 percent growth rate this year, Ems and
developing economies are on track to represent three-quarters of the world’s overall growth in
2016. In its October 2016 World Economic Outlook, the WEF based this prediction on the
following assumptions:4
 Nations with economies currently under stress will gradually start to normalize
 Increased growth in commodity exports
 China’s recent fast-track growth will ease but stay conservatively robust
Today’s Emerging Markets
As expected with developing economies, inherent risks tend to create greater economic and
market swings than in mature countries. However, over time, many have seen substantial
overall growth. Western-influenced monetary policies have enabled more free-floating
currencies, and local stock and bond markets have continued to develop over the last 30 years.
Furthermore, infancy comes with certain advantages, such as the ability to adapt new
technologies (as opposed to upgrading old ones) and greater growth potential with less
restrictive regulatory and trade policies. From a demographic perspective, large EM countries
boast tremendous populations, with some of the largest growing and consuming middle classes
in the world. According to Merrill Lynch, consumer spending accounts for approximately 60
percent of the gross domestic product (GDP) in EMs.5
Focus on EM Quality...
“A potential solution for credit-conscious investors is to focus on the higher quality, investment
grade subset of the broad U.S. dollar-denominated emerging markets universe, which accounts
for about 54 percent of the market.”6
China
An interesting dichotomy is that China, which is the largest emerging market, also is today’s
second-largest economy in the world. The country’s current monetary policy is designed to
stimulate growth in consumer markets8, while the government’s five-year fiscal plan supports
factory automation and the development of highly skilled workers in order to enhance
productivity. Some global analysts expect China’s growth to continue at a healthy 6 percent
average annual pace.9
India
India, which also has been proactive in policy reform, is second only to China as the world’s
largest emerging economy. In fact, the country’s growth rate (7.5 percent) caught up with and
even surpassed China in 2016.10
The federal government has managed to divest much of its economic policy control to state and
local agencies, focusing more on fiscal policy, labor markets, energy and foreign investment in
manufacturing and infrastructure. From a demographic perspective, the country boasts large
numbers of young, educated workers. As a result, the country is poised for 6 to 7 percent
average annual growth over the next few years.11
Final Thoughts
Emerging markets offer attractive options for investors seeking both higher yield and long-term
growth. However, bear in mind that they require a strong tolerance for different types of risks
not usually associated with domestic securities, such as currency fluctuations, less oversight
and regulation, reduced liquidity and increased chances for political instability and civil unrest.
Remember that with great growth opportunity comes great responsibility, so be sure to work
with an advisor to conduct thorough due diligence to align opportunities in emerging markets
with your risk profile and time horizon.
1“World
Economic Outlook: October 2016.” World Economic Forum. 2016.
http://www.imf.org/external/pubs/ft/weo/2016/02/pdf/text.pdf. Accessed Oct. 5,
2016.
2“Transcript
of Chair Yellen’s Press Conference: June 15, 2016”. Federal Reserve.
June 15, 2016.
https://www.federalreserve.gov/mediacenter/files/FOMCpresconf20160615.pdf.
Accessed Oct. 23, 2016.
3“What
Will Emerge in 2016.” Bessemer Trust. Dec. 16, 2015.
http://www.bessemertrust.com/portal/binary/com.epicentric.contentmanagement.
servlet.ContentDeliveryServlet/Public/Published/Insights/Documents/BessemerTru
st_QIP_%20What%20Will%20Emerge%20in%202016.pdf. Accessed Oct, 10, 2016.
4“World
Economic Outlook: October 2016.” World Economic Forum. 2016.
http://www.imf.org/external/pubs/ft/weo/2016/02/pdf/text.pdf. Accessed Oct. 5,
2016.
5“Emerging
Markets: Some Good News at Last?” Merrill Lynch. 2016.
https://www.ml.com/articles/emerging-markets-changing-growth-drivers.html#fina
ncial-research-and-insights. Accessed Oct. 4, 2016.
6“Investment
Grade Emerging Markets Bonds: Higher Yield, Balanced Risk.”
Vaneck. Jul. 18, 2016.
https://www.vaneck.com/blogs/etfs/investment-grade-emerging-markets-bond-hi
gher-yield-balanced-risk-july-2016/. Accessed Oct. 5, 2016.
7Ibid.
8“What
Will Emerge in 2016.” Bessemer Trust. Dec. 16, 2015.
http://www.bessemertrust.com/portal/binary/com.epicentric.contentmanagement.
servlet.ContentDeliveryServlet/Public/Published/Insights/Documents/BessemerTru
st_QIP_%20What%20Will%20Emerge%20in%202016.pdf. Accessed Oct, 10, 2016.
9“Emerging
Markets: Some Good News at Last?” Merrill Lynch. 2016.
https://www.ml.com/articles/emerging-markets-changing-growth-drivers.html#fina
ncial-research-and-insights. Accessed Oct. 4, 2016.
10“What
Will Emerge in 2016.” Bessemer Trust. Dec. 16, 2015.
http://www.bessemertrust.com/portal/binary/com.epicentric.contentmanagement.
servlet.ContentDeliveryServlet/Public/Published/Insights/Documents/BessemerTru
st_QIP_%20What%20Will%20Emerge%20in%202016.pdf. Accessed Oct, 10, 2016.
11“Emerging
Markets: Some Good News at Last?” Merrill Lynch. 2016.
https://www.ml.com/articles/emerging-markets-changing-growth-drivers.html#fina
ncial-research-and-insights. Accessed Oct. 4, 2016.
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