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Emerging Markets Fixed Income

Video Transcript

The Impact of Slowing Global Growth on Emerging Markets

TOM BUTCHER: Eric, what effect will weaker U.S. economic data and possible postponement of Fed rate hikes do to the emerging markets?

ERIC FINE: That's a very timely question: what will another bout of Fed easing and bad U.S. data do to emerging markets (EM)? Number one: it means lower yields, and EM dollar-denominated bonds will obviously benefit from their U.S. Treasury component. It probably means that EM currencies will be stronger, at least near-term. But at some point, bad news is bad news, and weak growth is simply weak growth, and just bad for global demand. In general, this long period of monetary experimentation in which there has been a lot of forbearance on the part of the U.S. and other central banks has been consistent with weaker EM currencies and weaker commodity prices. We may get a short-term boost as the market determines that growth is bad. That is good news, because the Fed is going to ease. In general, the markets will eventually come around to the view that this is just bad news.

BUTCHER: What are the implications of Brexit?

FINE: I think of Europe as basically a fragile system. The euro zone has one money, and many fiscals and financial systems. And it has had a crisis that has indicated that you can’t do that. If you are going to have one money, then you need to have one fiscal system and one financial system. They had said they would address this, but they haven't. The next time a challenge comes, from whichever quarter, it will be very difficult to credibly say that this time we are going to fix it. The biggest implication I am concerned with is Poland, where the probability of it leaving the European Union has increased significantly. Poland receives a substantial amount of money from the common budget. Britain gives a lot of money to the common budget. That negotiation is going to get opened up, and I think it will change to the detriment of Poland's budget allocation. I believe that the Poles are then likely to say that they don’t want to be a part of this anymore.

BUTCHER: Moving from Europe to the emerging markets, which countries do you consider to be problematic at the moment?

FINE: A country that is problematic, not necessarily in the sense of a crisis, but in terms of its importance to EM, is China. China's debt keeps rising and its growth keeps declining. I have a strong conviction that this is not going to continue. China is important. One third of global investment is Chinese. China is the marginal buyer of most commodity prices. Even if China avoids a crisis and just has a bumpy downward ride, this will have big implications for EM. China is worthy of significant attention, no matter how you view it.

BUTCHER: Any other countries in particular?

FINE: I would add Venezuela on the problematic side. We had for years been in the camp that Venezuela was not going to face social unrest. However, after one of our colleagues, Dave Austerweil, returned from a trip to Venezuela several months ago, we changed our longstanding view, thankfully before it became obvious. It appears as if the country's imploding socially. I think the market is a little too constructive that this will come to a head, that the military will then step in, and that everything will be fine. We don't think it will be that straightforward. We understand why the market thinks this way, as this often happens in these situations. We just don't see this as one of those situations where we get a sustained rally from a collapse of the current government and the entry of the military. Even if it happens, it will be a short-term boost, and then it will be like a ping-pong ball bouncing down the stairs, moving lower and lower.

BUTCHER: Moving from the problematic countries to the attractive ones -- in the current environment, which ones are attractive to you?

FINE: We still really like Argentina. It has been our longest-standing exposure for over four years now. Argentina has a good government that has released capital controls. You have a country that has been isolated, and that has been de-levering for fifteen years now, and there is too much money going into a small window. We think asset prices have a huge upside. Argentina is one of the few local currency markets where we have a core view. We might get exposure to some local currency if we think it has overreacted to some negative news. With Argentina, we have liked the local for the first time in four years, and it has 30% yields. And just too much money going through a small window. In general, the fiscal and external accounts are pretty good.

Brazil is another country we like. There's been a big de-risking from Brazil, and for good reasons. The political crisis can continue, and it can grow long. So you're not supposed to have a bullish view on everything Brazil. We're avoiding local currency, and long-duration dollar bonds. But we do have short-duration dollar-denominated bonds in a range of corporates, including Petrobras, where we think the spreads are too high, and we think the political risk is ultimately not going to matter; where you're going to get your carry, and you're not going to be able to sell off that much because the bonds are short-dated. This will ultimately be resolved, one way or another. The problem in Brazil is that the current government that replaced the Dilma Rousseff government is arguably more problematic from a legal standpoint. Dilma was arguably one of the least corrupt politicians, and that's a problem. The protests were not about Dilma. The protests were about corruption. And her biggest crime may have been her incompetence in terms of managing the economy. That's not going to go away. For that reason, we think you're supposed to be cautious about Brazil, but not avoid it. There has been a big de-risking, and there are things you can do in Brazil that are respectful of the ongoing political bumps, but also respectful of the spread and, at the end of the day, Brazil is a net creditor. It has more dollar reserves than dollar debt. It's hard to not really pay attention to a situation like that unless they're bleeding reserves, and they're not bleeding reserves.

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