This article is part of Your Guide to Emerging Markets. All this week, we are focusing on emerging markets, sharing their potential pitfalls – and where you can make a pretty penny.
Russia
Dan Kemp, Morningstar Investment Management
There is no hiding that Russian political anxiety has a pronounced impact on western thinking. Vladimir Putin’s latest moves add another sentimental blow to these developments, with concerns likely to remain and asset prices in the region likely to be influenced by the negative sentiment.
Yet, societal concerns aside, we see an opportunity to benefit from Russian anxiety. Specifically, we continue to look favourably on Russian equities, especially relative to many of the expensive developed market peers.
This verdict in favour of Russian equities may seem controversial, although really highlights the way collective behaviour creates valuation-driven opportunities. In the case of Russia, we have witnessed a gradual improvement in earnings, cash flows and dividends – all growing faster than western peers in nominal terms.
Over the very long term we would not be surprised if Russian risk remained elevated, although it could easily subside from current levels. This collective overreaction should therefore gradually subside too, meaning Russia could benefit from a tailwind of both stronger earnings and improving sentiment.
Turkey
Paul Greer, Fidelity
Following a 75 basis point rate hike in April and a 300 basis point hike in May, the Turkish Central Bank last week hiked their policy rate by an additional 125 basis point from 16.5% to 17.75%. This is a bold and unexpected move which illustrates that the Turkish government acknowledges the dangerous macro imbalances in their economy and are now serious about prioritising price stability and financial stability at the cost of growth.
We applaud this move from the Turkish authorities, particularly as it comes with some domestic political cost to the incumbent government just two weeks away from contentious Presidential and Parliamentary elections. Current inflation in Turkey is now 12.2%, and likely to rise towards 14-15% over the coming two to three months, then moderating towards 12% by year-end. With the policy rate at 17.75%, this now takes the real rate in Turkey to well over 5%.
Turkey still has many challenges and is in need of deep structural reform on several fronts, however today’s move will go a long way to restoring investor confidence in Turkey’s ability to stay ahead of the curve. Ideally today’s action should be coupled with a commitment to maintain a tight fiscal policy anchor, although this will remain uncertain until after the election results are known.
Despite today’s move, the exogenous back drop for Turkey and all of emerging markets remains challenging given the recent recovery in the US Dollar and continued rising US yields. Turkey’s fiscal balance and gross sovereign Debt/GDP is also moderate compared to many of its peers, while its long standing ability and willingness to repay its external debt remains in place.
Russia
Matthias Siller, Baring Emerging Europe Plc
At the beginning of April the US government expanded its economic sanctions to a wider scope of Russian companies, government officials and a number of politically connected entrepreneurs. As a direct result of the ongoing geopolitical tensions we believe these actions will undoubtedly have an impact on the Russian market’s perceived risk premium, but have to be interpreted through the lens of diplomatic policies.
In our opinion, the economic impact on the wider Russian economy remains very limited, which is especially important given the substantial earnings growth potential of approximately 20% we currently expect for the Russian market.
Crucially, fiscal prudence prevailed over the last couple of years, and the Russian Central Bank’s policies are widely considered as best-of-class within emerging markets. Russia continues to exhibit resurging household consumption on the back of record-low interest rates and companies which display an established track record of improving corporate governance.
This has been evident in the record dividend proposal of market leading bank Sberbank, further supporting our view that the investment case for Russian equities remains intact and is not based on an improvement of diplomatic relations but rather on tangible, positive corporate performance of listed Russian companies.
