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Belgian selectors undeterred by EM debt sell-off

Against the grain

Belgium fund selectors have bucked the trend when it comes to emerging market government bond fund sentiment compared to their more bearish pan-European counterparts, according to Last Word Research.

Belgian selector net buyer sentiment towards the asset class increased by 14 percentage points to 25% in Q2 2018 from Q1, compared to the sharp nine percentage point drop to 6.1% from pan-European selectors.

EM Govt Bonds net buyers v Belgium

Source: Last Word Research

Similar to Belgian fund selectors, Swedish and Dutch selectors were also keen on the asset class with a net buyer sentiment reading of 23.5% and 20% respectively.

The most bearish selectors were the Danes (-10.5%), Swiss (-8%), and the Norwegians (-6.3%).

EM Govt Bonds net buyers pan Europe

Source: Last Word Research

While Belgian sentiment experienced an uptick in Q2, across Europe sentiment has been on a downward trajectory since the the sell-off in emerging markets in February.

Brussels-based CBP Quilvest senior private banker, Vincent Coppée, told Expert Investor that despite the recent volatility and the difficulties emerging market debt funds have experienced over the past few months there were still opportunities.

“I think the problem is that all emerging market debt funds suffered a lot from the sentiment from around the region and in our opinion, it is coming from only a few problem countries like Turkey and countries within Africa,” Coppée said.

Similarly, M&G Emerging Market Bond Fund manager, Claudia Calich said there were weaker credits in sub-Saharan Africa sovereigns. She said Argentina and Bahrain were also dependent on high growth or low refinancing yields to keep debt levels stable.

“While we have seen a broad-based reduction on current account deficits in many emerging market economies and we can say that that part of the rebalancing process is complete, we have only started to see improvements on their fiscal deficits. Higher growth will help, but in some cases, there is still much more to be done,” she said.

EMD opportunities

Calich said Chinese credit spreads had reached levels that might be attractive, especially in the real estate sector.

We also favour local market exposure in countries where real or nominal rates look attractive, such as Brazil and Uruguay, or where it is likely that inflation has peaked, such as Mexico,” she said.

“In the corporate space, we favour quasi-sovereign oil and gas issuers with sound fundamentals and certain consumer businesses in Peru and real estate firms in Mexico. In terms of local or hard currency debt, we had a positive view on locally-denominated debt after 2015 as we viewed the US dollar rally was basically done.

“US-dollar denominated debt is more attractively priced now than it was earlier this year as spreads have widened and we are starting to find pockets of value in this space. As ever in emerging markets, it’s a cherry-pickers’ market.”

ESG inclusion

Coppée noted that there were a lot of emerging market countries that were better off from a economic, political, and financial health point of view, since the last two years.

“We are thinking for example countries like India, Brazil, and Mexico despite pressures from US politics,” he said.

“We are also looking for funds that use an ESG [environmental, social, governance] criteria as it helps to find the right position we need in our portfolios. For example, they often exclude countries like Turkey and Russia.”

Coppée said that when looking at ESG criteria for emerging market debt funds, it was focused on the country level rather than the government.

“We are seeing more positive criteria from India with political reforms and activities in the region. In Brazil there are some improvements but not as much as India, and China is still out of scope for most ESG criteria,” he said.

Capital flow challenge

However, Coppée said the biggest challenge for emerging markets was capital flows on the country level.

“It’s less obvious than 20 years ago during the 1997 Asian financial crisis but we still see emerging markets experiencing outgoing capital flows,” he said.

“The rising interest rates and rising US dollar is putting pressure on some investors to repatriate capital into their own countries like the US and you clearly see an influence on emerging market countries that have been quite dependent on flows coming from developed countries.”

Fund flows

Last Word’s quarterly asset allocation survey noted that, as the funds had remarkable flows during the year to July 2018 at €36.5bn, it was of little surprise that fund selectors were beginning to put on the brakes.

While May and June experienced outflows totalling €4.9bn, July turned saw a turnaround with €2.9bn of inflows – the highest since January 2018 (€7.6bn), according to Morningstar data.

Year to July 2018, the asset class has had inflows of €9.3bn.

Top EMD funds

According to FE Analytics, Edmond de Rothschild Fund Emerging Credit A-USD was the top performing emerging market debt fund at 23.6% over the three years to 31 July 2018.

This was far above the sector returns of 2.3% within the FCA Recognised universe and 2.1% within the Offshore Mutual universe.

Top 5 emerging market debt funds v sector performance three years to 31 July 2018

Top 5 EMD funds v sector three years to 31 July 2018

Source: FE Analytics

The top fund was followed by Absalon Emerging Market Corporate Debt R fund at 21.1%, Aberdeen Global Frontier Markets Bond X Accumulation fund at 20.1%, NNIP Frontier Markets Debt (Hard Currency) I Cap at 16.4%, and Global Evolution Manco Frontier Markets R at 15.7%.

When Expert Investor examined emerging market equity funds earlier this year, frontier markets also took the performance lead.

For Coppée, his favourite emerging market debt funds are Degroof Petercam Asset Management Bonds Emerging Market Sustainable Bond, Aberdeen Global Select Emerging Market Bond, and Pictet Latin American Local Currency Debt fund.

All of the funds beat the benchmark with the Degroof Petercam fund performing the best at 11.2% over three years to 31 July 2018.

Vincent Coppée favourite emerging market debt funds v sector performance three years to 31 July 2018

Source: FE Analytics

The top funds were found using FE Analytics that were domiciled in either Ireland or Luxembourg within either the FCA Recognised or Offshore Mutual universe, and were available for sale in at least three pan-European countries.

Jassmyn Goh

Jassmyn reported from Sydney to New York to Jakarta before joining Expert Investor. She was most recently Features Editor at Money Management and Super Review in Sydney.

Part of the Bonhill Group.