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Why major emerging markets crashes are a thing of the past

07 August 2014

Aberdeen’s Anne Richards says attitudes towards the sector have changed and that institutional investors are now using dips as a buying opportunity.

By Daniel Lanyon,

Reporter, FE Trustnet

Emerging markets will be less susceptible to sell-offs over the next decade, according to Anne Richards, chief investment officer at Aberdeen.

Sharp falls in emerging markets are still fresh in investors’ minds after the sell-off in May last year. Concern turned to panic when the Fed hinted it was planning to gradually reduce its monthly stimulus programme. When ‘the taper’ began in January 2014 the market sold off further.

The MSCI Emerging Markets Index plunged 17 per cent and the IMA Global Emerging Markets sector saw an average fall of 16.24 per cent over the course of a month in the first sell-off. The index and sector fell a further six per cent in a month when tapering began in January.

Performance of sector and index since 22 May 2013

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Source: FE Analytics

However, the index and sector have bounced back as sentiment returned.

The index and the sector are up 13.65 and 11.95 per cent respectively since the market bottomed out at the end of January 2014.

Compared to substantial emerging markets sell-offs over the past 15 years, where markets fell over 50 per cent during crisis periods, Richards (pictured) says attitudes towards the asset class have changed with investors less cautious to dump assets or buy back in after a fall.

ALT_TAG “Markets are less sensitive now than they were. The reason is, in comparison to the Asia crisis, Asian governments and Asian companies have learnt that dependency on Western capital is a really bad thing because it made them very, very dependent to changes around that flow of capital. So they have become less dependent on it in aggregate although not every country,” Richards said.

“Also, Asian companies in particular and emerging markets generally have become much more prudent in terms of their own balance sheets and the management of their balance sheets. Emerging market companies tend to be less levered than before.”

Asian markets were hit hard at the end of the 1990s by a series of high current account deficits and currency devaluations across several countries, which in turn caused stock markets to fall, eventually causing declines in developed markets in the US and Europe.

From September 1997 over the course of a year the MSCI Emerging Market index fell almost 55 per cent and took almost three years to regain its lost value.

Since the Asian crisis there have been several other significant sell-offs in periods of market weakness. During the early days of the 2007/8 financial crisis the index fell also fell dramatically, losing 49.6 per cent but regained its lost value in less than 18 months.

Performance of index since Jan 1996

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Source: FE Analytics

However, the market is still down 6.8 per cent from its peak before the sell-off in 2013.

Richards says the bulk of the shift in sentiment swings that are dampening out market panic is coming from institutional investors.

“Our experience of the last 12-18 months with the first of the 'taper tantrum' affecting emerging market sentiment shows the Western institutional investors, such as pension funds, allocated into emerging markets. They used it as a buying opportunity, both on the bond and equity side.”

“It was the private wealth platforms which did the big sentimental swing out and took allocations right down to zero. We saw two flows going in two opposite directions, so that is a sign of the increasing maturity in the way emerging markets are used by the institutions.”

“Eventually the private wealth platforms will catch up but they still see it as a risk-on risk-off trade. Much of the institutional world has moved on from that.”

Emerging markets, which collectively count for more than half of the world’s gross domestic product, are still liable to falls driven by sentiment or other shocks but the days of the large and prolonged down periods are a thing of the past, Richards says.

“There is still a sentiment effect that they will be vulnerable to, but the bounce back from that - that you have seen in this cycle - tends to be much more rapid because the fundamentals are so much better.”

Eric Lonergan, manager of the M&G Episode Growth fund, also thinks emerging markets have moved on from their previous volatility and argue the worries over US tapering and rising interest rates are outdated, as they centre on what happened to the asset class in the late 1990s.

“Looking back at the Asia crisis, a lot of the companies were heavily indebted in US dollars.Some had their currencies anchored to the dollar, which isn’t the case anymore. The sell-off last year was very extreme, but I think a lot of the worries aren’t all that relevant anymore.”

However, while he thinks worries about an all-out crisis are overstated, Lonergan isn’t currently heavily invested in emerging markets because he sees better opportunities elsewhere, namely in US banks and the European periphery.

He is concerned about the outlook for earnings in China and is avoiding the region until the outlook becomes more certain, though does have a substantial weighting to Korea on valuation grounds.

Emerging market doyen Mark Mobius recently told FE Trustnet there was no crisis in emerging markets or chance of a return to the dark days of 1997.

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