| Weighting of emerging market assets set to move in institutional portfolios |
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| 30/05/2004 | |
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As in any other investment decision, an institutional investor has to face a tough couple of choices before actually allocating its money in one asset class that seems uniform at the first glance, but that covers many different products. Under the current evolving conditions that markets are witnessing (see beside), things are not different: allocations are moving in accordance to the risk appetite of investors following market conditions. The prospects of higher yields, capital appreciation and diversification with respect to the emerging market asset class at large (bond and equity) have to be judged against the downside of higher volatility and the related sensitivity to external factors. ABN AMRO recommends a 10% emerging market exposure to institutional investors, while the current weight of emerging markets on the Global MSCI index stands at approximately 5%. The good performance of emerging markets in 2003 has led investors to push their emerging market investment further over the last year according to ABN AMRO strategist Maarten Jan Bakkum. "Most people are now overweighed in emerging markets, but under the new conditions people are likely to move to underweighted position", he says. "When the global indicators start to go down, when people get worried about the cyclical drivers on the emerging markets, emerging bonds outperform emerging equities. After a year in which emerging equities outperform emerging bonds, we probably now should be in a period where emerging bonds get better than emerging equities." Not only are investors are expected to decrease slightly their exposure to emerging market equities, but the outlook for bonds should lead them to invest more heavily into emerging market bonds. Mohamed El-Erian, emerging market fixed income Managing director at PIMCO, says that institutional investors usually invest 3 to 5% of their assets to emerging market bonds, but "much depends on the risk/return characteristics of the other components of the portfolio. Emerging market debt offers attractive potential returns subject to considerable volatility." Credit quality The aforementioned trend should confirm since the quality of emerging market bonds improved last year, reflecting the better fundamentals of emerging economies. "The positive tone among emerging markets has built up steady momentum in the last twelve months, with the gap between entities listed with a negative bias and those listed with a positive bias narrowing progressively" report Standard and Poors Rating Services's analysts. As of April 27, 15% of rated issuers in the emerging markets were listed either with a negative outlook or a CreditWatch with negative implications, compared with 23% a year earlier" Mohamed El Erian says: "We are witnessing both a deepening and widening of the investor base for emerging markets bonds. This phenomenon is apparent in the U.S., Europe and Asia. It is driven mainly by the improvement in the credit quality of the asset class." In fact, credit quality in the emerging markets is so strong that nearly half of the 31 countries in the JPMorgan Emerging Market Bond Index now carry a coveted investment-grade bond rating. In 1994, almost 98% of the countries in the index were junk issuers, which made those investment more likely to fall into the "alternative" category PIMCO's El-Erian says that half of the index is now rated investment grade compared to less that 10% five years ago and points out that there is now "interest in combining emerging markets as part of the dynamic management of credit portfolios" from institutional investors. J.L. |
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Articles of the same Topic : Portfolio management |
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