Safety in emerging markets

Emerging markets will survive a credit crunch generated by US sub-prime, as the new economies have decoupled from the old world.

Schroders Investment Management head of global emerging markets Allan Conway said in an interview available for video streaming via http://moneybox.tv that in a worst-case scenario, where US growth fell to 0.7 per cent, emerging markets would still generate 4.3 per cent.

“I think the chances of this happening are between 40 to 50 per cent next year, compared to the general belief we are in for a soft landing,” he said.

“The markets are complacent, believing the Fed will ride to the rescue.”

Conway said US house prices are already in negative territory and are expected to fall significantly further.

HSBC negative debt in its mortgage book in the US is about 13 per cent, but if house prices fall by -10 per cent, the HSBC book will move to 50 per cent negative. Conway said in Florida house prices are already -30 per cent negative.

But emerging markets are fairly immune to this crisis, as there are low levels of debt and in many Asian countries no mortgage structure.

According to Schroders, total government debt, as a percentage of gross domestic product, is 60 per cent.

In emerging Asia this is 38.2 per cent, and in all emerging markets it’s 36.8 per cent.

“The historic perceptions that investing in emerging markets was high risk due to currency devaluations, high inflation and other economic problems is no longer the case,” he said.

“These problems of debt, inflation and currency devaluations are now old world problems.”

Most emerging markets current accounts are in surplus and inflation has been running just above zero since the turn of the century.

“Now, to get extra growth in a portfolio you have to move to safer economies, and these are all in emerging markets,” he said.

But emerging markets are not without some concerns, and a possible bubble in China and India is concerning some investors, Conway admits.

He cites three risk factors for causing bubbles in investment markets — a major displacement event, liquidity and the stage where investors lose touch with reality.

“The major displacement has been the growth of the China and Indian economies,” he said.

“The China/India emergence is the most significant event on the global economy since the (British) Industrial Revolution.”

Conway said liquidity is not a problem in emerging markets such as China and India.

But investors losing touch is a reality, as China A shares are tracking the same growth rate as the NASDAQ bubble at the turn of the century.

Conway admits these are the signs of a bubble developing, but the Chinese are taking measures such as increasing stamp duty and allowing more external investment to take some of the air out of the bubble.

“The Chinese are taking some heat out of the economy to ensure the bubble doesn’t burst in the year of the Olympics,” he said.