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Vaccine hopes set off rush for emerging markets



The coronavirus crisis sparked a record flight out of emerging market assets, with more than $90bn leaving bonds and stocks in March alone, according to the Institute of International Finance. But now the asset class is making a comeback.

This month’s breakthroughs in the hunt for an effective Covid-19 vaccine have fed optimism over the global economy, rekindling interest in some riskier investments. Emerging market currencies and stocks have been big winners, rallying hard for the past two weeks, while bonds have also made up lost ground. The broad-based rally took MSCI’s benchmark EM stock index into positive territory for the year, up more than 50 per cent since its March low.

And as Wall Street sets out its big ideas for 2021, EM is top of the list.

One in two fund managers in this month’s Bank of America survey picked emerging markets as their favourite for 2021. The sector will move “from resilience to outperformance” next year, Goldman Sachs analysts predicted. Renaissance Capital — an emerging and frontier market specialist often wary of making bullish calls — advised investors “to buy anything and everything” in the sector.

Nick Robinson, investment director for emerging market equities at Aberdeen Standard Investments, said a recovery in economic activity may not even be needed to keep the EM equities rally running.

“Economic growth is always helpful but sometimes you just need valuations to have diverged too much,” he said. “You also need a catalyst, which so far has been the news about vaccines and investors starting to price in a return to normality.”

Investment flows tell the same story. EM equity funds, which suffered almost uninterrupted outflows from March to September, have attracted almost $14bn in the past two weeks, according to data provider EPFR. This is mirrored by IIF data on cross-border flows, showing more than $22bn moving into local stock markets so far in November. Investors have also returned to EM debt, especially sovereign bonds issued overseas in dollars or other “hard” currencies.

Line chart of MSCI Emerging Markets indices, rebased showing Emerging markets are back in the black

Goldman Sachs’ bullish view is based on its forecast of a strong global economic recovery over the next 12 months, helping EM in particular given the “snapback potential” presented by low valuations. It picks out Mexico, which the bank thinks will benefit from a strengthening US economy, as well as having room for further policy easing next year to support growth, and Brazil, which it thinks could be lifted by rising commodity prices.

A big divergence within EM equities made a broad-based call difficult, said Mr Robinson at Aberdeen Standard. Nevertheless, he expected the sector to benefit from a rotation out of highly priced growth stocks that dominated the US Nasdaq index, into so-called value stocks: unloved shares often found in economically sensitive sectors such as energy and financial services.

Line chart of cumulative flows to mutual and exchange traded funds ($bn) showing investors stage a return to emerging market assets

“Part of the growth stock rally was driven by the idea that the future is arriving sooner, with everybody moving online and working from home,” said Mr Robinson. “Now there’s a vaccine, the future has been pushed back out a little.”

Renaissance Capital’s Charles Robertson points out that, as a lot of money now comes into EM assets through exchange traded funds, lower quality assets are likely to bounce the most, including lower-rated sovereign bonds, undervalued commodity currencies and relatively unloved or illiquid equity markets. He suggests buying a basket of African foreign currency bonds, such as those of Egypt, Kenya, Ghana, Nigeria and Angola.

Like others, however, he says a weaker US dollar is fundamental to the EM investment case. Some analysts expect the dollar to fall by as much as 20 per cent next year against the currencies of its main trading partners. That would provide a huge underpinning for emerging market assets. A weakening dollar offers foreign investors the prospects of currency gains on top of often generous equity dividends and higher interest rates on local currency bonds than those available in their home markets.

Column chart of weekly foreign investor flows to local emerging markets ($bn) showing cross-border flows have surged in two of the past three weeks

A weaker dollar also makes it easier for debtors in the developing world to repay their dollar borrowings, easing concerns about debt sustainability, and boosts earnings for commodity exporters as contracts priced in dollars become more valuable in local currencies.

However, if the dollar fails to weaken as expected, the investment case risks falling apart. “I think the dollar will be a fundamental driver,” Mr Robertson said. “But yes, it’s a big risk.”

That is not the only concern. Some EM-watchers are anxious about the rising overall debt burdens of countries that have spent their way out of the coronavirus crisis. Others are nervous about a repeat of 2013’s “taper tantrum”, when the US Federal Reserve announced a coming reduction in its bond-buying programme, and sent EM assets into freefall.

“I am worried about what happens when the market starts to think about tightening of policy again and all the stimulus that could be withdrawn,” said Aberdeen Standard’s Mr Robinson. “With a reduction in QE and an eventual raising of interest rates, you can imagine something like 2013.”

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A carbon registry leaves polluters with nowhere left to hide




The writer is the founder and executive chair of the Carbon Tracker Initiative, a think-tank

No one yet knows which countries will extract the last barrel of oil, therm of gas or seam of coal. But the jostling has started. Every nation has reasons to believe it has the “right” to continue fossil fuel extraction, leaving others to deal with the climate crisis.

In the Middle East, oil producers can argue that the cost of extraction is low. In Canada, they market their human rights record. Norwegians trumpet the low-carbon intensity of their operations. And in the US under Donald Trump, they touted the virtues of “freedom gas” and called exports of liquefied natural gas “molecules of freedom”.

The dilemma for governments is that if one country stops producing fossil fuels domestically, others will step in to take market share. And so the obligation to contain emissions set out in the Paris Agreement risks being undermined by special pleading.

In the UK, the furore over plans for a new coal mine in Cumbria the year that the country is hosting the UN’s climate summit is indicative of the contrary positions many countries hold. Facing one way the government says it is addressing climate change. But looking the other, it consents not just to continued extraction, but to support and subsidise the expansion of production.

Climate Capital

Where climate change meets business, markets and politics. Explore the FT’s coverage here 

To keep warming under the Paris Agreement limit of 1.5C, countries need to decrease production of oil, gas and coal by 6 per cent a year for the next decade. Worryingly, they are instead planning increases of 2 per cent annually, the UN says. On this course, by 2030 production will be too high to keep temperature rises below 1.5C. The climate maths just doesn’t work.

One of the problems in attempting to track fossil-fuel production is the lack of transparency by both governments and corporations over how much CO2 is embedded in reserves likely to be developed. This makes it difficult to determine how to use the last of the world’s “carbon budget” before temperature thresholds such as 1.5C are exceeded.

Governments need a tool that establishes the extent to which business as usual overshoots their “allowance” of carbon. There needs to be a corrective because the cost competitiveness of renewable energy, and the risk of stranded energy assets, has not stopped governments heavily subsidising fossil fuels. During the pandemic, stimulus dollars have been dumped into the fossil-fuel sector regardless of its steady financial decline, staggering mounds of debt and falling job count. 

This is why my initiative and Global Energy Monitor, a non-profit group, are developing a global registry of fossil fuels, a publicly available database of all reserves in the ground and in production. This will allow governments, investors, researchers and civil society organisations, including the public, to assess the amount of embedded CO2 in coal, oil and gas projects globally. It will be a standalone tool and can provide a model for a potential UN-hosted registry.

With it, producer nations will have nowhere left to hide. It will help counter the absence of mechanisms in the UN’s climate change convention to restrain national beggar-thy-neighbour expansion of fossil-fuel production.

No country, community or company can go it alone. But governments can draw from the lessons of nuclear non-proliferation. First, they must stop adding to the problem; exploration and expansion into new reserves must end. This must be accompanied by “global disarmament” — using up stockpiles and ceasing production. Finally, access to renewable energy and low-carbon solutions must be developed in comprehensive and equitable transition plans.

The choice is between phasing out fossil fuels and fast-tracking low-carbon solutions, or locking-in economic, health and climate catastrophe. A fossil-fuel registry will help governments and international organisations plan for the low-carbon world ahead.

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Hasty, imperfect ESG is not the path for business




The writer is a global economist. Her book ‘How Boards Work’ will be published in May

Good environmental, social and governance practices take a company from financial shareholder maximisation to multiple stakeholder optimisation: society, community, employees. But if done poorly, not only does ESG miss its sustainability goals, it can make things worse and let down the very stakeholders it should help.

To be sure, the ESG agenda should be pursued with determination. But there are a number of reasons why it threatens to create bad outcomes. The agenda is putting companies on the defensive. From boardrooms, I have seen organisations worry about meeting the demands of environmental and social justice activists, leading to risk aversion in allocating capital. Yet innovation is the most important tool to address many of the challenges of climate change, inequality and social discord.

Pursued by $45tn of investments, using the broadest classification, ESG is weighed down by inconsistent, blurry metrics. Investors and lobbyists use different evaluation standards and goals, which focus on varied issues such as CO2 emissions and diversity. Metrics also depend on business models.

Without a clear, unified compass, companies that measure themselves against today’s standards risk seeming off base once a more consistent regulator-led direction emerges (for example, from worker audits, the COP26 summit and the Paris Club lender nations).

ESG is not without cost and the best hope for long-term success lies with business leaders’ ability to stay attuned to its impact and unintended consequences. For example, while the case for diversity is incontrovertible, efforts at inclusion should account for the possible casualties of positive discrimination.

Furthermore, despite ESG advocates setting a strong and singular direction for governance, organisations have to maintain their operations and value while managing assets and people in a world where cultural and ethical values are far from universal. While laudable, a heightened focus on ethics (such as human rights, environmental concerns, gender and racial parity, data privacy and worker advocacy) places additional stress on global companies.

It is often asked if advocates appreciate that ESG is largely viewed from the west’s narrow and wealthy economic perspective. To be truly sustainable, ESG demands global solutions to global problems. Proposals need to be scalable, exportable and palatable to emerging countries like India and China, or no effort will truly move the needle.

Much of the agenda is too rigid, requires aggressive timelines and lacks the spirit of innovation to achieve long-term societal progress. Stakeholders’ interests differ, so ESG solutions must be nuanced, balanced and trade off speed of implementation against the breadth and depth of change.

Business leaders are aware of the need for greater focus and prioritisation of ESG. We also understand that deadlines can provide important levers for senior managers to spur their organisations into action. After all, in the face of pressure for a solution to the global pandemic, vaccines were produced in months instead of the usual 10 years.

I live at the crossroads of these tensions every day. Raised in Africa, I have lived in energy poverty, and seen how it continues to impede living standards globally. As a board member of a global energy company, I have seen much investment in the energy transition. Yet from my role with a university endowment, I have also been under pressure to divest from energy corporations. 

Business leaders must solve ESG concerns in ways that do not set corporations on a path to failure in the long term. They must have the boldness to adopt a flexible, measured and experimental agenda for lasting change. In this sense, they must push back against the politically led narrative that wants imperfect ESG changes at any cost.

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