The riskiest emerging markets for investors

Investors have started to turn their backs on risky assets, exposing these emerging markets to higher interest rates.

Last May, emerging markets "went into freefall" when the US central bank hinted that it would taper (gradually reduce) its money-printing programme, says Chris Wright on Forbes.com. The prospect of higher interest rates in the US prompted investors to turn their backs on traditionally risky assets.

Once tapering was finally announced late last year, emerging markets took it in their stride. But this smooth start hardly rules out "a disorderly adjustment scenario" akin to, or worse than, last May's turmoil, says the World Bank.

If there is such a panic, the amount of money flowing into developing countries could drop by as much as 80% for several months, the World Bank estimates. So which countries would be most vulnerable to a "sudden stop" like this?

Clearly, it's the ones that depend the most on foreign capital in the first place the ones with big current-account deficits.

Countries with current-account deficits spend more on imports than they raise from exports. This gap has to be financed by borrowing money from the rest of the world. The bigger the shortfall, the more foreign capital the economy needs.

When global monetary policy is loose, financing is cheap. But when rates rise it becomes more expensive. If a deficit is very large, countries will have to pay ever-higher interest rates to fill it, "making the problem worse, in something of a vicious spiral", says Schroders.

One of the main ways a dearth of foreign capital hits growth is through local firms being starved of credit. Raising local interest rates to tempt foreign money back just makes things worse.

Another key factor is the proportion of a country's foreign debt that is short term (the more short term, the more vulnerable the nation), and the size of its foreign-currency reserves (which can potentially offset the withdrawal of foreign money).

By looking at how well these reserves cover the gross external financing requirement (GEFR the current-account deficit plus all external liabilities due in the next 12 months), Schroders has uncovered the most vulnerable nations.

Turkey looks most exposed. Its reserves cover just under one year of its GEFR. Chile, Indonesia, India, South Africa, Hungary and Brazil can cover one to two years. At the other end of the scale are South Korea, Taiwan and the Philippines whose exports should also benefit from the global recovery.

Recommended

I wish I knew what an emerging market was, but I’m too embarrassed to ask
Too embarrassed to ask

I wish I knew what an emerging market was, but I’m too embarrassed to ask

This week's “too embarrassed to ask” explains what emerging markets are, and why you might want to invest in them.
9 Sep 2020
Bullish investors return to emerging markets
Stockmarkets

Bullish investors return to emerging markets

The ink had barely dried on the US-China trade deal before the bulls began pouring into emerging markets.
27 Jan 2020
Why investors should beware of India’s surging stockmarket
Emerging markets

Why investors should beware of India’s surging stockmarket

The BSE Sensex benchmark index has soared by 90% since March, largely driven by foreign investors. But India's bull market is very vulnerable.
15 Jan 2021
How to invest in Africa as it takes its place in the post-pandemic sun
Emerging markets

How to invest in Africa as it takes its place in the post-pandemic sun

The African Continental Free Trade Agreement has come into force. Favourable demographics, improving governance and a growing technology sector also b…
14 Jan 2021

Most Popular

Why we won’t see a house-price crash in 2021
House prices

Why we won’t see a house-price crash in 2021

Lockdown sent house prices berserk as cooped up home-workers fled for bigger properties in the country. And while they won’t rise quite as much this y…
18 Jan 2021
Prepare for the end of the epic bubble in US stocks
US stockmarkets

Prepare for the end of the epic bubble in US stocks

US stocks are as expensive as they’ve ever been. How can you prepare your portfolio for a bubble bursting?
18 Jan 2021
It's not just the UK – we're seeing pandemic housing booms across the globe
Property

It's not just the UK – we're seeing pandemic housing booms across the globe

Soaring house prices aren’t just a UK thing, they’re a worldwide phenomenon. And it’s no coincidence – the underlying cause is much the same. John Ste…
18 Jan 2021