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Bright Spots in Emerging Markets

2016-06-03

A better external backdrop is just part of the reason why emerging market assets have surprised in the first half of 2016. Kamakshya Trivedi, chief Emerging Markets macro strategist in Goldman Sachs Research, considers the local and global factors influencing asset prices in developing economies around the world, including China, Brazil and India.

This podcast was recorded on May 17, 2016.

All price references and market forecasts correspond to the date of this recording.

This podcast should not be copied, distributed, published or reproduced, in whole or in part. The information contained in this podcast does not constitute research or a recommendation from any Goldman Sachs entity to the listener. Neither Goldman Sachs nor any of its affiliates makes any representation or warranty, as to the accuracy or completeness of the statements or any information contained in this podcast and any liability therefor (including in respect of direct, indirect or consequential loss or damage) is expressly disclaimed. The views expressed in this podcast are not necessarily those of Goldman Sachs, and Goldman Sachs is not providing any financial, economic, legal, accounting or tax advice or recommendations in this podcast. In addition, the receipt of this podcast by any listener is not to be taken as constituting the giving of investment advice by Goldman Sachs to that listener, nor to constitute such person a client of any Goldman Sachs entity.

Copyright 2016 Goldman Sachs. All rights reserved.

This is an unofficial transcript meant for reference. Accuracy is not guaranteed.
This is excellent, Do the Goldman Sachs, where people from our firm share their insights and developments currently shaping markets. Industry. in the global economy. I'm Jake Seaward Global have We're communications here at the firm one of the years biggest. This has been the rally in emerging market assets which have seen a pronounced uptake and investor interest amid a global search for you, to discuss what's been driving this activity in the outlook from here I'm joined by action to vary the chief emerging market macro strategist in Goldman Sachs Research, Katy welcome to the programme. Thank you. Thanks so heading into engineer, you and your team identify the following key risks for yams China's deceleration, the noise position of interest rates in the: U S and lower for longer commodity pricing, so flash fortune,
and most people believe China's in a better position than it was at the start of the year. The feds looking like is taking more dervish approach on It's an oil has been rising. Does this? Splain rally. I think it is a big part of the explanation. I think, if you look at the past three to four months, I think you had a cocktail. Circumstances, which have been unusually friendly to emerging market assets. Like you mentioned, I think the fear is around an abrupt evaluation in China. Abated China's growth state actually look like it was improving for a while the feds tact debate, which was most pronounced, the margin for M C and then all prices after an initial lurch lure twenty dollars a barrel higher- and this combination was very fortuitous for emerging markets, but What I want to emphasise that it isn't just the external circumstances that helped emerging markets having to other things were important as well.
Firstly, coming into the start of the year, emerging market fundamentals had begun to improve, and specifically what I mean by that is on the external front. Emerging markets had started rebalancing in a much more convincing way, so their current account deficit, which were significantly wide going into the taper tantrum of twenty thirteen. Those had been closing gradually and happening country after country seeing a sort of narrowing of its current account deficit. So it's on the due to internal factors or just the external environment, I think of The boat, but primarily internal factors are primarily because domestic demand in these countries had compressed their imports had come down significantly, and so the gap between their outflows in enclose had sort of compressed much more money gladly so that fundamental improvement, I think, was important and linked valuations
had also become significantly more attractive at the start of the year. So when we looked at emerging market currencies in particular at the start of the year, we emphasised the point that for the first I'm in several years, maybe three, four years after years of depreciation, emerging market currencies finally offered some value, so I It was a combination of the value prob. mission being better the funding. full showing some signs of improvement. But that came side and external backdrop that turned out to be much better and I think that constellation of things together, I think, explain to a large extent the rally the few senior to date, the factors we discuss, Europe's monetary policy higher commodity prices in China, which do you see as the most consequential for em growth going forward. I would say that all price and you s rates and an U S. Monetary Policy- are probably
the more immediate frisks just to the extent that they are bigger market factors. These can switch pretty quickly. We have a uniform, see meeting coming up. I think a number of FED speakers have said that that is still alive. Meeting some hawkish is they're good, emerging market. Similarly, in oil prices have moved to the top of the range the dark modern team is outlined. If you see some fall back, that could be more immediate risk, but there is doubt in my mind that the most consequential factor in the east of medium term for emerging markets is the trajectory of China and how China deals with its extremely significant challenges of DE leveraging, its economy at a time of slowing grill, whether that happens in a smooth fashion or in a much more bumpy fashion, is going to be a significant, deter. And the trajectory for emerging market grilled going forward. Let's talk a little bit more on that topic and on China, specifically because so much
and really on their path from here so concerned? Under the current see really baited since the policymakers went to a trade waited index in December. In your view, how likely is devaluation, like the one we saw last summer. I think an abrupt evaluation in a way that is not telegraph. That sort of came little bit out of the blue light in the summer. I would like to think that the chances of that type of occurrence are less likely now, partly because I think chinese policy makers themselves have learned that that's not of signalling markets. That's that's right. The importance of signalling the importance of communicating a clear and credible policy framework, and without that it can be self defeating me, one of the things that you saw boats last summer Also earlier this year was that there was devaluation worse than the US dollar, because it was abroad because it rattle global markets. You saw a lot of China's trading part.
A currency depreciate as well in a trade waited basis they didn't actually get very must not vitiation. By contrast, you look at what has happened since it started here. We ve talked about the rally in emerging market assets and in particular in emerging market currencies over this period since about lay Jan the sea- and why is the worst performing currency? Are trade waited basis? They have actually you this period to engineer a nice depreciation versus the basket, but they have now stated that that is one of the things that they want to benchmark the currency against saw my view would be that an abrupt move of the kind we saw last summer. I say the chance of that our low, but I still see
C n y weakening on a broad basis going forward, and I think, that's part of you know the easier financial conditions that China needs, as it undertakes is difficult. Economic challenges, nothing along that path, some depreciation versus the dollar, but also a gradual depreciation on a trade waited basis. Both I think, are likely, but I'd like Things are not going to an abrupt, ruled that rattles markets Katy Andrew Tilton, one of your colleagues, have Goldman Sachs Research has described the chinese government's recent approaches. Kind of a sea saw between maintaining I'm a growth and stability and pushing the much too about and needed transition to a consumer led economy? What's you take on that transition? So far, can China keep drawing at the six and a half December read? It wants Andy Lover at the same time, in Vienna in your question? Does actually, I think too, pretty significant
challenges mean one is. Would you mentioned the kind of handover from an investment capital capital, intensive, fixed ass, at investment, driven economy towards more domestic demand, consumption driven effort and the second challenge is One of de leveraging, the economy after one of the biggest credit build up in the history of not just emerging markets were developed markets as well. In both those challenges are immense and when you think about the first one, history is not littered with examples of countries. Having done this, handle were from a sort of investment, fixed assets, driven growth model to a more consumption driven model without MAC when market volatility along the way. You could argue that Japan is still living with the consequences of attempting that Handover Korea still trying to do it and religion. after World WAR, the? U S, post world war, two but that is right and I think I think that's exactly right it in the. U S is an example and active in after that, the last real examples where Southern Europe they made that to some extent that transition as well so
uniting that's an incredibly difficult challenge and it's going to be one that is with us for some time and I think it's gonna generates and volatility along the way, but to undertake that transition at a time when growth is slowing. You have this big credit build up. I think, specially harden, and you know you made the final point in your question about. Can they do this? We know with six and a half to seven percent growth rate. I actually do think that six and a half to seven percent growth rate, the aim that the policy makers have is actually barred, problem, because I think it is too high relative two hours for consumer ladder. That's right too ambitious relative to adjust our estimates of what potential grotius, and so you tend to get exactly what you described this kind of seesaw, which is because the view is that No, it is not sufficient. You sort of trying to fall back on That means that you know generate growth, which sort of credit stimulus, and he saw some of that earlier this year.
as if you actually had a less ambitious grilled target, then you may be willing to let some of the reformed momentum progress and not be so tied up to open. killer, girls, tiger growth number that is in some sense too ambitious and is probably thwarting some of your medium term. Reforming and when the other emerging markets, that's been much in the news recently is Brazil, so political terms, got the headlines, but Brazil equities or among the ears best performers and the brazilian Rio and serves against the US dollar. Add you count for that strong performance and does the pie Data signal better days add for the broader economy there so again in time.
of accounting for the performance. I'd go back to some of the factors we talked about right up front. Brazil is another example of an emerging market country where, despite it being the poster child of much, that was wrong with emerging markets underneath the surface over the past year. Their current account deficit, narrowed significantly event from current account deficit about five percent of GDP, to something less than two percent between deem sustainable, so they will not contraction and biggest economy. That's exactly because the contraction than domestic economy, because the deep appreciation, the reality which should have improved the competitiveness of its exports. To some extent, those do things together, cause that improvements again What I would say is the fundamental backdrop was better coming into this year than it has been for several years. The currency was at a much more competitive level. The external side had rebalance the real interest rate was much higher. On top of that, you got the sort of confluence of external favourable external circumstances that we talked about intent
commodity prices going up China looking a little bit better, the FED being more debate and you this political inflection in some sense that is unique to Brazil, that certainly sort of has changed investor sentiment. In terms of the clients, we speak to sign say it is again a combination of a better external backdrop, but also some fundamental improvement and people trying to price in this political change. That has come true, a cautionary. But I would strike in terms of the forward looking element of this is that in some respects not so much on the equity market, but on the current see, I very little bit budgets gone too far almost, which is, I think, the last The Brazil needs today after having taken the pain that it has to move very swiftly again to an overvalued currency that, in some sense towards the progress that it has made you. It would be good to have
currency that is somewhat undervalued or at least fairly value to cement. This progress on the external side and build up some momentum for the future, so I worry little bit that the police and the currency, perhaps too much optimism being pro so when the dust settles on the political turmoil in Brazil had expect the country's economic approach in developing a new set of policymakers in place should we expect a shift more orthodox policies. I think that is certainly not clear if you look even at the initial announcements coming out of the new administration in terms of the make up of the policymakers, whether it is the new central bank governor of at the head of the finance ministries and the other economic departments, it does look like there is a shift towards a more orthodox set of policies and a set of policies that I think, should help consolidate them. Romans already seen, but also make further improvements. Again, though, in I would be cautiously optimistic, I mean, I think, the fiscal chow.
judges that Brazil needs to address our hard and they still have to deal with the parliament that was previously, and you know we ve learned in over the last five or six years. Fiscal concern innovation at a time of slowing growth is not easy. It wasn't easy in large parts of Europe and it certainly not easy in an emerging markets, because it wasn't here so easy here in the United States rather easy exactly there some bright spots in the Bric countries. India is a great source of optimism for investors and the recent economic aid has been good. May twenty six is the tyrannical prime minister motives coming into office, how investors.
his efforts so far, and what does the trajectory for India look like? I think, in the big picture, since the trajectory for India looks pretty positive, citing the fact that it has been a source of optimism, for investors is justified, but I'd makes it a couple of remarks there in terms of the forward looking side of things. First, I think it's not just the shift in political administration when Prime Minister Modi was elected. That was part of the reason four India's outperformance in twenty fourteen, but also, I think, the strong framework of monetary stability than Governor Roger and put in place after he came into office in twenty thirteen. When really India was in the eye of the storm of the taper, tantrum came out first, partly because it was effect, one of the hardest hit going. into it, and so I think I would emphasise as well that that framework of monetary stability that has been in place needs to be entertained. There are some question mark over whether his term will be extended. This.
What you mean, I think, a lot of investors are looking at that pretty closely apart from what is happening on the political front on the reformed front. If any in writing until recently, there was some disappointment after a lot of initial optimism. Yes, India's growth is one of the brighter spots in emerging market world, which is generally growing weekly envelope potential, but there wasn't much progress on the reforms to be honest, but really in the last couple of weeks, actually a couple of pretty important and significant measures. How finally gotten instead you did so, you know when I speak declines, I do detect a little bit more of an option, the moral glimmer of optimism coming back then, maybe there is going to be some momentum on the reform from so if India can cement that framework of monetary stability that has been in place in the last two or three years plus add to that, but some reform woman term. I think the trajectory looks bright ring in US
It's so financial conditions in the emerging markets is termed broadly positive recently, mostly because the weakness in the dollar and the dollar stance of the FED, which we ve talked about, given that common rules, so I think the dollar's bottomed at the moment. How might that impact emerging market growth of the adjusted to be inoculated against such arise? say? So, if you have a very sharp increase that is going to have an effect on emerging market financial conditions and on growth and really growth? Is the one missing point on the e M fundamental backdrop? I mentioned the improvement in the external rebalancing side he's missing in order to tell a really bullish e m story. Is you need a strong growth Ryan? Really we talked about India but outside of India, many parts of Central Eastern Europe. There aren't many parts
the aim was that are truly growing strongly and growing about potential. Citing this easing and emerging market financial conditions is extremely welcome and I think it is sustain. I think that bodes well for at least stabilization in growth and a gradual pick up going forward. So, despite oils recent, commodities remain pressure point for a lot of these economies, which countries have been hurt most by the prolonged slump in prices and what is the path forward? Their gifts, the slump in oil prices and even with the bounds in all prices, they remain at significantly lower levels than prior years, and I think you are an oil exporting country and a lot of emerging markets are when you think about Russia. When you think about Colombia, we think of the Gulf Economies- and you have this level of hit to oil prices. Some hip to your terms of trade, to a real incomes is inevitable, and I think, as a country, you can to some extent to
Well, that pain fools, but taking off that pain, you you have to do, and so there has been a somewhat of a viper occasion. Places like Russia have allowed the currency to depreciate and absorbed the full impact of the oil price fall and, if anything, Think are now on the slightly stronger footing. On the other hand, you have many of the Gulf economies which have the dollar peg. Essentially they haven't said the currency and just but the bulk of the adjustment has happened on the fiscal side, so their fiscal budgets have deteriorated enormously and the adjustment they have to make Terms of addressing those fiscal imbalances is also quite significant, so in some sense that just shows. But you know if you're in all exporter and oil is slices of how you face some tough tradeoffs, you have to take the pain one. the other you can choose a little, but where you directed gone choose not to take it, I think going.
Forward. One more important feature of the commodity slump might be the divergence that we expect between oil and solve the metals which, as we see the physical rebalancing of the oil market, to be further ahead than in the metal side, where both the combination of excess supply, but also the declining demand from China is, it makes that transition from a fixed at investment based economy to consumption based economy, so dampens the demand for that metals, and so you might see some interesting divergence between. This is like, I said you know Russia, Colombia, so the oil exporters, which have been hit hard and hit early relative to the metals producers, like Chile or South Africa. That might see more ongoing pain, so very low inflation, some cases deflation has proven to be a frustrating out for many developed markets,
our emerging markets, reacting to those low inflation commissions elsewhere. It's a very different and nuanced picture across emerging market remains a very broad churches. I would describe it. There are parts of emerging markets that have that worship of inflation as as a challenge, you know roughly the emerging markets that I described, The aims of e m, so you know you think, of places like Korea, think of Israel in Poland even to some extent China faced this issue of essentially inflation. That is, you know, low below target in some cases, zero or even negative, and despite quite easy monetary policy struggling to get it back about target, but you have other emerging market with the challenges very different. So if you, if you think about Russia and Brazil, we spoke about eating their inflation was too high in the last few years and is now finally beginning to bend lore. You know in both places and places like South,
Roma, India, again and high inflation is typically been rather than low inflation, and in going forward there going to be somebody in the middle of those two groups. So, yes, there is a low floor. the problem in parts of emerging markets, but its by no means as broad, based as it is across, citing the developed world senior conversations with clients Katy what country and markets are generating most interest. Where do investors see the most potential the most value. So we talk but Brazil. That's clearly enough focus of much interest in much conversation. I think Russia is the other place where we have seen in a significant interest in item Lee, been hard hit, not just for the oil prices, but also by the sanctions, but the combination of the fact that, if depreciated, early and and significantly and adjusted its current account in a very very significant it was in some sense, is forced to become selves,
she and which means that now and in a really since the start of the year, we ve been highlighting Russia, as it is a very attractive investment opportunity from the currency front, and we can do tat one of the most constructive forecast. Everything there is more room for the currency to appreciate, and we certainly thing there is significant role for interest rates to fall as inflation bends, lore indy continues to be a topic of interest, especially if the reform woman to marry starts. Moving higher. Indonesia is another place which has made significant improvements, and, I think, is something that was it for awhile under appreciated by many investors blighting. Now that certainly evoke us and, most recently I'd say, you're the political shift in our nineteen, I think they are garnering some interest as well, and you make the best returns and many of these places after a crisis or after a big political shift, when you have an inflection and so the possibility of an inflection in Argentina, the positive growth in a beginning to bottom and move up, and Russia and Brazil. I think those are some of
he says that attract quite a lot of client interest. Since some commentators have been nervous about the emerging debt levels in some of these countries, and they even go so far as to speculate, foreshadows and other financial crisis like we saw in the ninety nine years across Asia, actually brazilian, Russia's well or latin American. The eighties, how big of arrest His m debt right now to the broader economic outlook. I think the nature of the challenge is quite different. From the late nineteenth and early eighties, I mean, I think, you know it to the extent that we always learn the lessons from the last war. I mean lottery urging markets have taken out quite a lot of insurance against those sorts of crises in general? Sovereign external debt is relatively low and the reserve buffers that many of these countries have built up are quite high, so uniting the bar
for us, it is true sovereignty, fault amongst the major emerging markets that we color, I think, is pretty high and reserves are solid shape. They haven't taken on quite ass, much expense at that is running or domestic financing of it exactly and then the growth of the local currency debt markets has really been structural change. Over the past decade, or so so in some senses that origin, sin that emerging markets couldn't issue their debt and local currency and therefore face these kinds of challenges. Every time we had a currency depreciation is not as acute as it was in its Why we have seen crises level, currency, depreciation without crises. I think the challenge that exists today from the debt issue is more of a sort of corporate one, which is that I think certain corporates in many emerging markets have taken on a lot of external debt, and I think you could see pockets of distress,
in those particular places other than that I'd seen on domestic dead. You know we talked about it in China, but it's also in Greece significant in other places. I think part of Turkey has I'm off that overleveraged issue as well, and so to me the way that manifest itself genovese pockets of distress where you have that external debt, or some degree of under performance bank equities and things like that. A more normal sort of credit cycle, as opposed to sovereignty fault where I think ice tilting the bars pretty high right kitty thanks for joining us today. Thank you for having me. That concludes this episode of extra the Goldman Sachs on Jake Seaward. Thanks for listening, the spot gas was required.
on May seventeenth, two thousand sixty all price references and market forecasts correspond to the date of this recording. This podcast should not be copied distributed, published or reproduced in whole or in part. The information contained in this package does not constitute research or recommendation from any Goldman Sachs Entity to the listener. Neither Goldman Sachs nor any of its affiliates makes any representation or warranty
to the accuracy or completeness of the statements or any information contained in this podcast in any liability, therefore, including in respect of direct indirect or consequential loss or damage, is expressly disclaimed. The views expressed in this podcast or not necessarily those of Goldman Sachs and Goldman Sachs is not providing any financial, economic, legal, accounting or tax advice or recommendations in this podcast. In addition, the receipt of this podcast by any listener is not to be taken as constituting the giving of investment advice by Goldman Sachs too that listener, nor to constitute such person a client of any Goldman Sachs Entity.
Transcript generated on 2021-10-15.