The sector is holding up well but how long will it last if monetary stimulus efforts fall short
Jonathan Wheatley
Sao Paulo market. Brazil will be in the line of fire if the viral outbreak leads to a global slowdown © Bloomberg
Emerging market bonds seem immune to the coronavirus. Take the yield on Brazilian 10-year government bonds, which has barely budged this year. After ticking up in the past fortnight to 6.78 per cent, it is still tighter than the 6.8 per cent at which it closed 2018 and in a different world from the 12.5 per cent it reached last September.
EM bonds as a whole, in fact, are holding up well amid the giant sell-off that has hit risky assets across the board. Does that make them a strange kind of haven?
Simon Quijano-Evans, chief economist at Gemcorp, a Mayfair fund manager, says that depends not on EMs themselves but on the response — or lack of it — from global governments.
“The G20 [group of leading nations] needs to react in a co-ordinated manner,” he said. “We have seen a total collapse of G20 co-ordination in the past three or four years and this needs to change, lest this turns into something much more serious.”
So far, he said, investors in EM bonds are holding their nerve but the key question is how long that will last. Adam Wolfe, emerging markets economist at Absolute Strategy Research, said investors have already priced in some “pretty aggressive” interest-rate cuts from developed market central banks and that a continuing search for yield has supported EM bonds.
But if the monetary stimulus investors are counting on falls short, he added, EM fixed-income assets will come under pressure.
Mr Quijano-Evans looked at the biggest five-day falls during the past four decades in total-return indices of US stocks in the S&P 500, European stocks in Frankfurt’s Xetra Dax and EM sovereign bonds in the JPMorgan EMBI-Global Diversified index.
The S&P index fell 11.5 per cent to last Friday and the Xetra Dax index 11.3 per cent in dollar terms. Both are in the same ballpark as similar shocks since the 1980s. But the EM bond index dropped just 2.1 per cent last week, a fraction of its losses in previous wobbles, when it fell in line with US and European equities.
The gap in EM bond yields over US Treasuries has widened, he noted, but the magnitude of the falls in US yields means EM bonds, too, have held up well.
This could be testament to the work being done by EM central banks and governments over the past decade to control inflation and stabilise their currencies. “They have reduced some of the riskiness,” Mr Wolf said.
The danger — as the OECD noted on Monday — is that the viral outbreak leads to a global slowdown, further hitting commodity prices, starting with oil. Brent crude dipped below $50 a barrel on Monday. While that might benefit energy importers such as Turkey and India, it would spell serious trouble for those exporters in Latin America, Africa and the Middle East that have so far suffered relatively little damage.
Brazil, too, would surely be in the line of fire.
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