EM backdrop still strong

Mid Week Bond Update

EM backdrop still strong

Politics and growth are both key issues for Emerging Markets, where the overall news is positive – but with some notable exceptions.


Over the past few years, political risks in developed market economies have become a major focus of investors, overshadowing similar risks often associated with emerging market (EM) economies. In contrast, the EM risk environment has continued to improve, as rapid growth in the middle class has changed the structure of several key economies.

Consider Brazil, India Mexico and South Africa. The end of the 1990s saw private consumption, driven primarily by growth in household economic strength, which has generally overtaken government spending and exports as the main contributor to GDP.
 

Middle Class Consumption Continues to Grow

Chart courtesy of Brandywine Global. Source: Haver Analytics. Past performance is no guarantee of future results. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

 

Of course, the picture isn’t entirely rosy.  Aggregate wage growth in nominal terms has been tepid in those four countries over the past five years. And what improvement has taken place hasn’t benefited all economic strata.  South Africa, for example, has an unemployment rate of 27% – a reality with strong influence on the continuing political turmoil in that country.
 

On the rise: Central bank equity holdings

The world’s central banks have increased their holdings of equities to more than $1 trillion, according to a recent report by independent research group OMFIF. That’s about 10% of total central bank reserves, according to the report, and a relatively small fraction of the total amount of outstanding equities worldwide of $77 trillion.

While that may seem surprising, remember that one of the key challenges of the world’s central banks is how to continue growing their reserves while managing the risks that come from over-concentrated holdings in bonds, and how to optimize investment returns on these reserve assets as a group while owned.

Of course, the irony is that the overconcentration in bonds and the temptation to reach for return both come in part from the collective actions of the central banks themselves – namely the global multi-year quantitative easing programs that driven interest rates, and yields on bonds, to record lows, and in some cases into negative territory.
 

On the slide: Turkey’s benchmark interest rate?

As the Turkish lira moves higher against the greenback after the country’s most recent rate crisis in early May this year, the country’s central bank faces the surprising prospect of cutting its benchmark rate, now at 24%, to stimulate growth – after lobbying hard (and successfully) to keep the rate elevated.

The room for maneuver is provided by financial markets, which are currently pricing one-year swaps on the currency at about 23% -- a percentage point lower than the bank is currently offering. This suggests traders in this illiquid part of the market believe they will receive only the lower of the two rates a year from now, A second interpretation: if the central bank actually lowers rates at the meeting on Wednesday June 13th, the position might be solidly in the money right away.


All data Source: Bloomberg, as of June 11, 2019, unless otherwise noted.

 

Definitions:

OMFIF, the Official Monetary and Financial Institutions Forum, an independent think tank for central banking, economic policy and public investment. With offices in London and Singapore, OMFIF focuses on global policy and investment themes relating to central banks, sovereign funds, pension funds, regulators and treasuries. Global Public Investors with investable assets of $33.8tn are at the heart of this network.

Emerging markets (EM) are nations with social or business activity in the process of rapid growth and industrialization. These nations are sometimes also referred to as developing or less developed countries.

Gross Domestic Product ("GDP") is an economic statistic which measures the market value of all final goods and services produced within a country in a given period of time.

 

 

Top

Important Information

 

All investments involve risk, including possible loss of principal.

The value of investments and the income from them can go down as well as up and investors may not get back the amounts originally invested, and can be affected by changes in interest rates, in exchange rates, general market conditions, political, social and economic developments and other variable factors. Investment involves risks including but not limited to, possible delays in payments and loss of income or capital. Neither Legg Mason nor any of its affiliates guarantees any rate of return or the return of capital invested. 

Equity securities are subject to price fluctuation and possible loss of principal. Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls.

International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.

Commodities and currencies contain heightened risk that include market, political, regulatory, and natural conditions and may not be suitable for all investors.

Past performance is no guarantee of future results.  Please note that an investor cannot invest directly in an index. Unmanaged index returns do not reflect any fees, expenses or sales charges.

The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, guarantee of future results, recommendations or advice.  Statements made in this material are not intended as buy or sell recommendations of any securities. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not take into account the particular investment objectives, financial situation or needs of individual investors.

The information in this material is confidential and proprietary and may not be used other than by the intended user. Neither Legg Mason or its affiliates or any of their officer or employee of Legg Mason accepts any liability whatsoever for any loss arising from any use of this material or its contents. This material may not be reproduced, distributed or published without prior written permission from Legg Mason. Distribution of this material may be restricted in certain jurisdictions. Any persons coming into possession of this material should seek advice for details of, and observe such restrictions (if any).

This material may have been prepared by an advisor or entity affiliated with an entity mentioned below through common control and ownership by Legg Mason, Inc.  Unless otherwise noted the “$” (dollar sign) represents U.S. Dollars.

This material is approved for distribution in those countries and to those recipients listed below. Note: this material may not be available in all regions listed.

All investors and eligible counterparties in Europe, the UK, Switzerland:

In Europe (excluding UK and Switzerland), this financial promotion is issued by Legg Mason Investments (Ireland) Limited, registered office 6th Floor, Building Three, Number One Ballsbridge, 126 Pembroke Road, Ballsbridge, Dublin 4, D04 EP27. Registered in Ireland, Company No. 271887. Authorised and regulated by the Central Bank of Ireland.

All Qualified Investors in Switzerland:
In Switzerland, this financial promotion is issued by Legg Mason Investments (Switzerland) GmbH, authorised by the Swiss Financial Market Supervisory Authority FINMA.  Investors in Switzerland: The representative in Switzerland is FIRST INDEPENDENT FUND SERVICES LTD., Klausstrasse 33, 8008 Zurich, Switzerland and the paying agent in Switzerland is NPB Neue Privat Bank AG, Limmatquai 1, 8024 Zurich, Switzerland. Copies of the Articles of Association, the Prospectus, the Key Investor Information documents and the annual and semi-annual reports of the Company may be obtained free of charge from the representative in Switzerland.

All investors in the UK:
In the UK this financial promotion is issued by Legg Mason Investments (Europe) Limited, registered office 201 Bishopsgate, London EC2M 3AB. Registered in England and Wales, Company No. 1732037. Authorized and regulated by the Financial Conduct Authority. Client Services +44 (0)207 070 7444

All Investors in Hong Kong and Singapore:

This material is provided by Legg Mason Asset Management Hong Kong Limited in Hong Kong and Legg Mason Asset Management Singapore Pte. Limited (Registration Number (UEN): 200007942R) in Singapore.

This material has not been reviewed by any regulatory authority in Hong Kong or Singapore.

All Investors in the People's Republic of China ("PRC"):

This material is provided by Legg Mason Asset Management Hong Kong Limited to intended recipients in the PRC.  The content of this document is only for Press or the PRC investors investing in the QDII Product offered by PRC's commercial bank in accordance with the regulation of China Banking Regulatory Commission.  Investors should read the offering document prior to any subscription.  Please seek advice from PRC's commercial banks and/or other professional advisors, if necessary. Please note that Legg Mason and its affiliates are the Managers of the offshore funds invested by QDII Products only.  Legg Mason and its affiliates are not authorized by any regulatory authority to conduct business or investment activities in China.

This material has not been reviewed by any regulatory authority in the PRC.

Distributors and existing investors in Korea and Distributors in Taiwan:

This material is provided by Legg Mason Asset Management Hong Kong Limited to eligible recipients in Korea and by Legg Mason Investments (Taiwan) Limited (Registration Number: (98) Jin Guan Tou Gu Xin Zi Di 001; Address: Suite E, 55F, Taipei 101 Tower, 7, Xin Yi Road, Section 5, Taipei 110, Taiwan, R.O.C.; Tel: (886) 2-8722 1666) in Taiwan. Legg Mason Investments (Taiwan) Limited operates and manages its business independently.

This material has not been reviewed by any regulatory authority in Korea or Taiwan.

All Investors in the Americas:

This material is provided by Legg Mason Investor Services LLC, a U.S. registered Broker-Dealer, which includes Legg Mason Americas International. Legg Mason Investor Services, LLC, Member FINRA/SIPC, and all entities mentioned are subsidiaries of Legg Mason, Inc.

All Investors in Australia and New Zealand:

This document is issued by Legg Mason Asset Management Australia Limited (ABN 76 004 835 839, AFSL 204827).  The information in this document is of a general nature only and is not intended to be, and is not, a complete or definitive statement of matters described in it. It has not been prepared to take into account the investment objectives, financial objectives or particular needs of any particular person.

Forecasts are inherently limited and should not be relied upon as indicators of actual or future performance.

Derivatives, such as options and futures, can be illiquid, may disproportionately increase losses and have a potentially large impact on Fund performance.