| LONDON, July 4
LONDON, July 4 Risky emerging stock markets have
had a storming rally in the past month on a more upbeat view of
the world's prospects, though their fate remains inextricably
linked to that of the euro zone.
The growth outlook for China - the export destination for
emerging commodity producers like Brazil and Russia - and the
impact on the oil price of tensions over Iran are also major
risks as emerging and developed economies become more
Emerging stocks have leapt since confidence began to grow in
early June that Greek voters would reject more radical parties
at their mid-June elections, staving off the unprecedented
threat of an exit from the euro zone and encouraging investors
to seek higher returns from riskier trades.
The markets got another shot in the arm late last week, when
euro zone leaders surprised investors with the extent of the
progress at their summit in tackling the bloc's protracted debt
"Emerging markets are very much hostage to developments in
Europe," said Gabriel Sterne, economist at brokerage Exotix.
"A lot of this is not based on country specifics, but on the
Because emerging markets tend to be less liquid, their
prices move more sharply than developed markets when investors
decide to buy or sell. Such investment decisions often depend
largely on how easy - and therefore cheap - it is to raise money
in the financial markets.
The higher yields which emerging debt markets offer become
particularly attractive when low interest rates in the developed
world encourage investment.
Some emerging economies, notably Brazil, have complained
they are at risk of inflation and boom/bust cycles as investors
export the cheap cash that major central banks have been pumping
out to try to kickstart developed economies.
The benchmark emerging equities index has jumped
in the past month, hitting its highest in six weeks, making
gains of six percent just since last Thursday.
Developed markets have also rallied in the
past few days, but by a smaller four percent, though European
banking stocks, which often have subsidiaries in
emerging markets, also rose by nearly six percent.
Some of the strongest performers have been markets which
suffered in 2011, such as Kenya, the best-performing
frontier market, or lesser-developed emerging market, this year,
and Egypt, the best-performing emerging market.
Emerging markets largely outperformed developed markets
between 2003 and 2010 but since the beginning of last year they
have taken the brunt of the world's economic woes.
While investors have focused heavily on the four largest
BRIC economies - Brazil, Russia, India and China - these have
been some of the worst performers this year, with the key being
lowered expectations for growth in China.
Commodity exporter Brazil has slashed growth forecasts and
India has a record current account deficit.
Russia has also suffered from the falling oil price in
recent weeks, but its stock market has jumped a massive
10 percent in the past few days, due to its strong correlation
to the price of the country's oil exports.
Concern over oil-producing Iran's reaction to European Union
sanctions, which came into force this week, has helped to push
oil above $100 a barrel.
This kind of worry could even outweigh the dampening effect
of weaker Chinese growth on oil exporters.
"The geopolitical risk premium that has been washed out of
the oil price is set to return over the coming year, potentially
leading to record prices in 2013," said Emad Mostaque, Middle
East and North Africa strategist at Religare Capital Markets, in
a client note, adding that "we have identified risks in Algeria,
Sudan, Nigeria, Iran, Iraq and key GCC (Gulf Cooperation
The euro zone crisis has by no means gone away, with 12 out
of 28 fund managers polled by Reuters last month still expecting
Greece to leave the euro zone.
Emerging Europe, in particular, is closely linked by trade
and banking ties to the single currency bloc.
But relatively strong individual companies in emerging
markets such as Turkey or Russia could attract investors who are
tired of euro zone banking and corporate risks.
Some countries that were once labelled 'low risk' on the
basis of their euro zone membership are now on downward credit
rating trajectories that make them look a poor choice compared
with emerging debt market alternatives.
"We have seen a structural shift in asset allocation from
mature bond markets into emerging bond markets," said Thanasis
Petronikolos, head of emerging market debt at Barings Asset
"You can get much higher returns from emerging markets."
If markets are starting to level out, indiscriminate buying
or selling of the emerging market asset class could also be
replaced by a more measured approach, weighing up the investment
pros and cons of individual emerging economies.
"In the next couple of months, emerging markets will
hopefully get in that window where enough funds will think of
these markets in their own right ... looking at country
fundamentals," said Sterne.