Emerging markets dominate as US recovery surprises

During February, emerging markets outperformed developed markets as high frequency data releases surprised market expectations. This improvement in the global economy was good news for riskier assets, but dangers still lurked for SA, according to Economis

“Riskier assets benefit from more encouraging growth expectations as their values are more certain. Our latest economic overview shows that this is what happened in February,” she says.

According the February edition of the BoE Private Clients’ domestic and international overview, the MSCI World index gained 4.9% on a total return basis in USD terms, while the riskier MSCI Emerging Markets index gained 6%. The Europe, Middle East and Africa region, including South Africa, outperformed even the MSCI Emerging Markets index, at 7.9%.

Throughout February, high frequency economic data releases surprised market expectations, with a host of indicators suggesting the US is recovering faster than market participants had predicted.

“News about particularly the state of the US labour market continued to surprise the market positively and hence riskier assets values kept rising,” says Sessions.

“The riskiest assets, including emerging market bonds and currencies as well as equities, benefit the most from these improving growth expectations. If growth continues to surprise market expectations, one would expect riskier assets to continue to outperform,” says Sessions.

But she warns that any weakness in data releases relative to market expectations could see a sell-off in riskier assets.

“Less risky assets, in that scenario, would probably outperform. Higher oil prices, which would sap consumer purchasing power, could be a potential catalyst for a reversal of recent gains inducing slower, disappointing growth.”

Still, considering the outlook for long-term interest rates, the better the growth prognosis out of the US the more likely US inflation becomes.

“This should, all else being equal, be good for emerging market currencies and bonds relative to their US counterparts,” says Sessions.

But she reiterated concerns that emerging market gains could bypass SA as a result of recent pronouncements by government.

“We are very nervous about the most recent budget for the SA economy and the potential consequences for the attractiveness of SA as an investment destination,” she says.

“Considering that South Africa’s economy requires substantial growth, one wants to make capital investments as attractive as possible. Unfortunately, the latest budget will increase the tax on productive capital.

“This approach can only undermine competition and the growth potential of the economy. It can only be hoped that investments in SA remain sufficiently attractive and that investment overall is not undermined.”