Broadgate: Weekly Briefing 8/4
8 April 2013
Cyprus – Cyprus has agreed to a set of measures that will release a EUR10bn ($12.8bn) international bailout.
The International Monetary Fund (IMF), which is contributing EUR1bn, says they are “challenging” and will require “great efforts” from its population. They will mean a doubling of taxes on interest income to 30% and a rise in corporation tax from 10% to 12.5%.
The plan, designed to stabilise the banking system and government finances, was agreed in principle last week.
Cyprus’s new finance minister Harris Georgiades, speaking on his first day in the post, said he was determined to honour the country’s commitments: “The responsibility is great, and the expectations of our citizens greater. Our promise is that we will make every effort for what is best for the nation. Under your guidance I am sure we will succeed.”
Europe – European Central Bank (ECB) President Mario Draghi signalled the ECB stands ready to cut interest rates if the economy deteriorates and said officials are considering additional measures as a debt crisis enters its fourth year.
“Our monetary policy stance will remain accommodative for as long as needed,” Draghi said at a press conference in Frankfurt after the ECB kept its benchmark interest rate at a record low of 0.75 percent.
“In the coming weeks, we will monitor very closely all incoming information on economic and monetary developments and assess any impact on the outlook for price stability,” he said. The ECB is “ready to act.”
India – India’s PM Manmohan Singh has said he is confident the country’s economy will bounce back and that the current downturn is “temporary”.
Mr Singh said he did not believe “our future is at 5% growth” and added that India “can get back to an 8% growth rate”. India’s growth has dipped in recent months, mostly due to a slowdown in its manufacturing and services sectors.
Foreign investors have also been wary of entering the Indian market amid a delay in key reforms. In February, India lowered its growth forecast to 5% for the year to 31 March 2013, underlining the challenges it faces in reviving the sluggish economy.
Japan – Japan’s central bank surprised markets on Tuesday with the size of its latest stimulus package, as it tries to spur growth and end years of falling prices.
The move was seen as a clear signal by the bank’s new boss, Haruhiko Kuroda, that he was willing to spend heavily to achieve an inflation target of 2%.
The bank said it would increase its purchase of government bonds by YEN50tn ($520bn) per year, that is the equivalent of almost 10% of Japan’s annual gross domestic product.
The bank added that it would buy longer-term government bonds as well as riskier assets. “The previous approach of incremental easing wasn’t enough to pull Japan out of deflation and achieve 2% inflation in two years,” Mr Kuroda said.
The Nikkei reacted positively, hitting its highest level in almost five years, climbing as much as 4.7% to 13,225.62, its highest since August 2008.
U.S. – New York’s Dow Jones and S&P 500 share indexes set new all-time highs on Wall Street on Tuesday.
The rallies mean the stock markets are returning to levels not seen since before the global financial crisis.
The Dow rose 89 points, to close at 14,662 on Tuesday, after an earlier intraday high of about 14,684, the broader Standard & Poor’s 500 closed at a record high of 1,570, suggesting investors are regaining confidence in the U.S. economy.
The Dow has more than doubled in value since it plummeted to less than 6,550 points in the depth of the crisis in March 2009.
Commodities – Gold fell to the lowest levels since May on Wednesday, nearing a bear market, on signs that investors are seeking higher returns in equities as the global economic recovery cuts demand for haven assets.
Global holdings of exchange-traded products backed by gold are down 7.4% this year, data compiled by Bloomberg show. Prices fell 7.3% this year through yesterday, while the MSCI All-Country World Index of equities advanced 5.3%. The metal may continue to decline as the resilience of the financial system to recent developments in Italy and Cyprus suggests reduced risk of a so-called major meltdown, Credit Suisse Group AG said on Wednesday.
Spotlight on: Is there any value left in emerging market debt?
Emerging market debt (EMD) had a good run over the past year and many investors are increasingly allocating to the asset class as the search for yield continues. However, these facts have caused some to question how much value is remaining in EMD.
Last year saw emerging market bond investors well rewarded. The JP Morgan Emerging Market Bond Index Global Core, for example, rose 18.62% during 2012 while flows into emerging market bond exchange traded products reached $6bn in 2012, double the level seen in the previous year.
However, this rise in popularity has come with questions about the value remaining in the EMD space. With yields on local currency bonds issued by emerging market governments falling from 6.8% one year ago to about 5.9% today, some investors are asking if it is too late to allocate to this asset class.
BlackRock chief investment strategist Russ Koesterich does not believe the market is overcrowded yet despite the recent pick-up in interest. Although most investors have allocated to emerging market equities, the same cannot be said of the regions’ debt.
“Among institutional investors, ownership of emerging market debt is still extremely low,” he says. “The largest defined benefit plans, for instance, have allocations to international debt in general of around 2% and among retail investors, current allocations to emerging market debt are negligible.”
Emerging markets experience faster growth rates than the developed world and tend to have greater macroeconomic stability, especially when it comes to their fiscal situations. Koesterich says the “big story” in emerging market debt is the improvement in credit quality, in both an absolute sense and relative to developed markets, as a result of these factors.
Meanwhile, EMD offers higher yields than developed market bonds despite the decline seen over the past 12 months. The strategist points out that the recent fall in emerging market yields has been “much less precipitous” than drop in developed market yields.
Old Mutual Voyager Strategic Bond fund manager Anthony Gillham agrees that the low levels of EMD adoption, healthy fundamentals and higher yields make a strong investment case for the asset classes.
“In a world hungry for investment income, emerging market debt is an increasingly interesting asset class. There are risks, as there are with any investment, but there are good fundamental reasons attracting investors,” Gillham says.
“Is emerging market debt over owned? U.S. pension funds, the largest globally by assets, have only around 3% of their assets in emerging market debt. That such a significant proportion of global investors own such a small amount of the asset class, a level that is incongruent with the increase in emerging markets’ global share of GDP, suggests to us that the asset class is far from over owned.
“In our view, despite the strong returns of recent years and the considerable inflows, local currency emerging market debt remains attractive, offering exposure to markets that are driving the global economy forward yet still generating a positive yield after inflation.”
HSBC Private Bank investment strategist Esty Dwek is also positive on emerging market bonds, arguing that the asset class can continue to deliver value despite the “extraordinary performance” seen in 2012.
She highlights Brazilian, Mexican and Turkish debt as being some of the most attractive in the emerging market space while China’s offshore bond sector and the local Russian market are other sources of attractive opportunities.
“While we acknowledge that emerging market debt performance cannot match that of last year, we believe that there is still some value in emerging market, on the hard currency corporate side and the local currency side. We believe that flows will continue into the region, supported by higher growth, healthier fundamentals and attractive carry,” Dwek says.
“We therefore believe that it is not time to sell out of emerging market debt, but rather time to be ever more selective in our exposure, both in terms of currency exposure and in terms of credit segment.”
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