Emerging market debt – Roundtable
The default ratios can, at worst, increase to 20% over the next five years, so we are not in the best position from a debt sustaina- bility perspective for the asset class. And we have to deal with loose fiscal frame- works, which are not improving debt sus- tainability dynamics in 2021. Differentiation will be key. We expect more defaults to come through and will be cautious in the next three to five years. These are probably going to be concentrated in higher yielding and smaller issuers.
It is difficult to generalise the asset class because it is becoming more complicated, especially in local currency. Such complex- ity offers more opportunities, so active managers should play more of a role. Madhurima Sen: Active management is important here. It is a core belief. Inves- tors have taken it one step further and are starting to believe in the value of specialists. They recog- nise emerging market debt is not just one asset class.
There is the hard currency mar- ket, both sovereigns and corporates, and also the local currency market. All of these have different risk and return drivers and require different skillsets. We have seen investors willing to take a few more line items into their portfolios to make sure they are getting specialist access in each area. That helps to reduce volatility from having a local network and expertise, for example, which a broader, more generalist team may not have. We have seen that evolution in portfolios. Generally, the caution in emerging market debt has started to diminish and people are willing to take on more governance.
PI: Is it better to be active or passive in emerging market debt, Roger? Mattingly: Active management is expert, forensic management. Trying to work out the impact of policy responses to Covid and
what the resulting indebtedness
means for those emerging markets is going to be a challenge.
PI: Are emerging market issuers more resilient?
Then there is the impact of remittances. In 2019 remittances were greater than foreign investment. That plummeted dur- ing 2020 and, therefore, the need for for- eign investment in many countries has never been greater. I can see some expert cherry picking amongst local currency emerging market debt could be beneficial, but the difference between getting it right and getting it wrong will be huge. There will be serious winners and losers out of this. Perversely, countries that came through the Russian crisis and the Asian crisis and taper tantrums might be more resilient this time around.
PI: Has there been a heightened default risk in emerging market debt since the pandemic took hold?
Alejandro Arevalo Head of emerging markets debt Jupiter Asset Management
Arevalo: Last year most investors were ex- pecting a high level of defaults across the asset class. We decided to exit Africa be- cause we saw it as high risk, but apart from defaults in Ecuador, Lebanon and Argentina there were no surprises. The as- set class has become more resilient. Going into this year, we expect defaults to be in line with 2020, which was around 1.6%. Many companies and sovereigns have taken advantage of the excess liquidi- ty that has come from developed markets in the past couple of years by issuing at low rates and extended durations. In high yield, the average is three to five years, but we have seen longer than that. The Covid scare has made management and governments realise that they need to be more cautious about how they operate, about
maturities, about about diversification. liquidity and
Pellegrini: There will be fewer sovereign defaults this year. There are a couple of candidates that come to mind with Ethio- pia asking creditors and the IMF for debt relief in the context of the new G20 com- mon framework. There is talk around Mozambique or Sri Lanka doing the same, but we do not expect Sri Lanka to default. They will muddle through while Mozam- bique is a more likely candidate for debt relief.
The G20 common framework is an inter- esting addition to the tool set of emerging market debt managers. We saw notable defaults or restructurings last year from Lebanon, Zambia, Ecuador and Argenti- na, who did not have a playbook to go by. These countries will now look internally at their own issues before making steps for- ward with creditors. It appears that we are going towards using this new G20 com- mon framework which was approved last year. It is helpful to have a framework that can help a country get back on the path to sustainable debt when it embarks on a debt sustainability analysis with the IMF. The country then agrees an IMF support programme, which looks at reform as well as financial support. They then request comparable treatment from their creditors.
Despite a default never being good news, we welcome the idea of a common frame- work because it is a way for creditors to sit at the table and talk, especially to those who have so far been reticent, such as Chi- na. It also brings transparency to debt re- lief proceedings.
In terms of defaults, there are a couple of notable cases, but we have not seen any- thing like last year.
PI: Big emerging market names, such as Brazil, Mexico and India, have been hit hard by Covid. What impact will this have on the investment case for emerging markets? Deltcheva: Capacity to manage a crisis is something you consider in your credit- worthiness analysis. That those countries
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