Analysis: Emerging markets outlook not rosy, but valuations tempt

Mon Feb 3, 2014 1:33pm EST
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By Daniel Bases

NEW YORK (Reuters) - Emerging markets were facing headwinds going into 2014, but January's rout surprised even the gloomiest of investors, with big declines in stocks, bonds, and currencies.

Political turmoil and terrorism threats across market capitals from Ankara to Kiev, along with growing concern about bad debt in China's shadow banking system, caused a full-scale pullback across all risk assets.

As a result, some investors are starting to see attractive values in these markets. Sentiment remains weak, however, so the actions of emerging market policymakers will determine whether investors take advantage of low valuations or opt to preserve capital, strategists say.

"From our view, the valuations in this sector, be it hard currency (debt), local currency (debt), EM FX, corporates, are becoming compelling. Look, that is the first time I have been even close to bullish on emerging markets for a while. But it is on a relative risk/return basis," said Paul DeNoon, senior debt portfolio manager at AllianceBernstein in New York.

"The market has discounted a lot of bad news. I think with a lot of policy responses in the better countries, some opportunities have developed," he said, pointing to relative value in Indonesian, Brazilian and Turkish credits which have fallen far and fast.

In just a month, the broad MSCI Emerging Markets stock index is down 7.5 percent .MSCIEF versus a decline of 5 percent for all of 2013, a year when developed markets surged by 30 percent. The benchmark U.S. S&P 500 stock index is down 3.6 percent year-to-date .SPX.

Yield spreads between emerging market sovereign debt and comparable U.S. Treasuries widened by nearly 50 basis points, according to JPMorgan's benchmark indices, the largest one month increase since June of last year when the Fed's first hint at reducing its monetary stimulus rattled global markets.

PLAYING DEFENSE   Continued...

A board from a currency exchange office displays the EURO-Forint rate in Budapest, February 3, 2014. REUTERS/Bernadett Szabo