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EMD: 2020 expectations

After a positive year of returns in 2019, what are your expectations for the asset class going into 2020?

2019 proved to be a positive year for emerging market (EM) assets, particularly those denominated in USD. Returns were robust despite poor global growth and a number of macro risks.

Coming into 2020, the global liquidity environment looks as though it will be supportive for the asset class, encouraging investors to search for yield in EM.

However, EM growth is likely to remain modest, accompanied by a slow rise in default rates from the currently low level. Gains therefore could be muted at the index level but investors would be wise to seek out sources of return, both from the long and short side.

We see three key themes driving the performance of EM risk assets in 2020:

  1. Shift from growth to stability presents potential carry trade opportunities. Historically, investors were focused on growth as a key driver of EM performance. Yet some EM countries have moved away from a ‘boom/bust’ growth profile and towards macroeconomic stability, which provides positive risk-adjusted carry opportunities.

  2. Maturing EM credit cycle is creating increased price dislocations in liquid stressed credits. As the credit cycle matures, we expect more stress in idiosyncratic credit stories given the tepid growth outlook combined with a gradual path towards global interest rate normalisation.

    While default rates are likely to increase towards the historical average (3.5% for corporate EM high-yield credits), we expect to see more price dislocation in liquid stressed credits, especially in some sovereigns.

  3. Domestic stimulus provides liquidity support to corporate credit. This theme has been playing out in Western Europe for several years. In 2020, we expect China to provide stimulus to the domestic economy both through infrastructure spending and loose monetary policy. Sectors like Chinese real estate, in our view, will be one of the key beneficiaries of that support.

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