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BlackRock Commentary: Downgrading EM local debt

Mike Pyle, Global Chief Investment Strategist, Scott Thiel, Chief Fixed Income Strategist, Ben Powell, Chief Investment Strategist for APAC and Axel Christensen, Chief Investment Strategist for LatAm & Iberia, all part of the BlackRock Investment Institute share their insights on global economy, markets and geopolitics. Their views are theirs alone and are not intended to be construed as investment advice.

BlackRock have turned more cautious on emerging market (EM) local debt despite depressed valuations after recent selloffs. Some EMs have allowed their currencies to weaken to help absorb the economic shock, and we see a risk of further currency declines in selected EMs that could wipe out coupon income. We are still overweight equities and credit in Asia ex-Japan, with China gradually restarting its economy and readying more policy support.

Article image 1 20.04.2020

Sources: BlackRock Investment Institute, with data from Refinitiv and IMF, April 2020. Notes: The Dots show the IMF estimate of the current account balance as a share of GDP for the current year (on the horizontal axis) and the change in spot currency exchange rate against the U.S. dollar so far in 2020 (on the vertical axis).

Emerging economies are different in economic fundamentals, fiscal conditions, governing capabilities – and the quality of public health systems. Compare key metrics on our interactive emerging markets marker. Many EMs have seen their currencies falling sharply against the U.S. dollar, especially the South African rand and Brazilian real. See the chart above. This follows a pattern seen in past crises, when countries with the greatest external vulnerabilities (current account deficits) have often taken the biggest hit to their exchange rates. One difference from previous crisis periods: Many emerging economies today are not fighting currency declines, which act as economic relief valves that can increase export competitiveness and shrink current account deficits over time. Instead, they are easing monetary and fiscal policies. This comes with risks. Potential capital flight could exacerbate currency declines and force some EM central banks to reverse course and raise rates.

It is not all bad news for emerging markets. We see the Federal Reserve’s recent flurry of emergency policy actions – as well as those of other major central banks – as supportive of fixed income markets globally. The Fed’s moves aim to ease financial conditions and provide ample U.S. dollar liquidity. Among them: cutting interest rates to near zero, purchasing investment grade and high yield bonds, and providing dollar liquidity to more foreign central banks via dollar swap lines. We see the liquidity in developed markets spilling over to the EM world. As yields compress in DM credit, many investors will likely seek out alternative sources of coupon income such as higher-quality EM debt. Another potential positive: China is gradually restarting its economy after stringent lockdown measures, and is set to deliver a large stimulus package. A rebound in China’s economic activity could bode well for EM exporters of bulk commodities in particular.

Yet we worry about the ability of many emerging economies to weather a growth shock that is set to exceed that of the global financial crisis in magnitude. EM activity was the first to plummet, led by China. Economists now see growth modestly contracting in the EM world for 2020, with risks skewed to the downside. The coronavirus outbreak threatens to overburden weak public health systems in many emerging economies, leading to the prospect of prolonged economic damage. International lenders of last resort such as the International Monetary Fund have signaled a willingness to step in aggressively to aid EMs in financial distress. This will help plug significant funding gaps and liquidity shortages, but such help typically comes with strings attached such as potential debt write-downs.

The bottom line: We downgrade EM local debt to neutral given risks of further currency depreciation and keep hard-currency EM at neutral. Overall, we see a place for income sources such as EM debt in a world where yield is hard to come by, but favor global investment grade and high yield credit at this point. We remain neutral on EM equities, as outperformance is more contingent on a growth recovery than it is in credit. We overweight Asia ex-Japan equities, which we see leading such a recovery as China slowly reopens its economy. We generally prefer credit over equities given bondholders’ preferential claim on corporate cash flows in a highly uncertain economic environment.

Market Updates

Article image 2 20.04.2020

Past performance is not a reliable indicator of current or future results. It is not possible to invest directly in an index. Sources: BlackRock Investment Institute, with data from Refinitiv Datastream, April 2020. Notes: The two ends of the bars show the lowest and highest returns versus the end of 2019, and the dots represent year-to-date returns. Emerging market (EM), high yield and global corporate investment grade (IG) returns are denominated in U.S. dollars, and the rest in local currencies. Indexes or prices used are: spot Brent crude, MSCI USA Index, the ICE U.S. Dollar Index (DXY), MSCI Europe Index, Bank of America Merrill Lynch Global Broad Corporate Index, Bank of America Merrill Lynch Global High Yield Index, Datastream 10-year benchmark government bond (U.S. , German and Italy), MSCI Emerging Markets Index, spot gold and J.P. Morgan EMBI index.

Fiscal and monetary policy action to bridge the economic impact of the  coronavirus has taken shape – and now the key is policy execution to ensure households and businesses get the cash being promised. Provided such actions are effective, we believe the cumulative loss in economic output over time from this shock may ultimately be less than that of the 2008 financial crisis. See how large is the coronavirus macro shock for more. China’s economy contracted for the first time on record in the first quarter, but U.S. stocks extended gains into a second week, on hopes that economic reopening was near.

Week Ahead


  • Tuesday: German ZEW indicator of economic sentiment
  • Wednesday: Euro area flash consumer confidence
  • Thursday: Flash purchasing managers’ index (PMI) for the U.S., UK and euro area
  • Friday: Ifo Business Climate Index

The spate of data from the euro area this week could help markets gauge the impact of containment measures on the economic, business sand consumer sentiment.


BlackRock’s Key risks & Disclaimers:

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of April 20, 2020 and may change. The information and opinions are derived from proprietary and non-proprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This material may contain ’forward looking’ information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this material is at the sole discretion of the reader.

The information provided here is neither tax nor legal advice. Investors should speak to their tax professional for specific information regarding their tax situation. Investment involves risk including possible loss of principal. International investing involves risks, including risks related to foreign currency, limited liquidity, less government regulation, and the possibility of substantial volatility due to adverse political, economic or other developments. These risks are often heightened for investments in emerging/developing markets or smaller capital markets. 

Issued by BlackRock Investment Management (UK) Limited, authorized and regulated by the Financial Conduct Authority. Registered office: 12 Throgmorton Avenue, London, EC2N 2DL

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