The potential shifts in the political landscape of emerging markets this year are putting investors on edge, with a slew of upcoming elections adding to pressure on flailing bonds, stocks and currencies.
(Bloomberg) — The potential shifts in the political landscape of emerging markets this year are putting investors on edge, with a slew of upcoming elections adding to pressure on flailing bonds, stocks and currencies.
One of the most-watched elections of the year is just a week away in Turkey, and other key votes are scheduled in nearly a dozen countries across the developing world. Pakistan, Thailand, Argentina and Poland are all preparing to hit the polls.
That introduces yet another layer of complexity to investing in the developing world, where political uncertainty is compounded by risks tied to global monetary policy trends, growth worries and banking angst in richer nations. The asset class’s performance has been resilient in the wake of a volatile first quarter, thanks to fundamentals and appealing valuations. Bouts of political instability, however, can cause dislocations and flight to quality — a poor mix for emerging markets.
“Should one political risk factor suddenly heat up, it can catch investors by surprise,” said Sergey Dergachev, the head of emerging-market corporate debt at Union Investment Privatfonds GmbH in Frankfurt.
Key emerging-market benchmarks for stocks and currencies are up roughly 2% since the end of 2022. A Bloomberg gauge of developing dollar bonds has risen just 2.7%.
In some countries, angry voters singed by a cost-of-living crisis are clamoring for change, contributing to shake-ups even before elections. One such episode played out in Colombia, where leftist President Gustavo Petro unexpectedly ousted seven ministers late in April, including his market-friendly finance chief. The move roiled Colombian assets, sending the peso sharply lower.
“Governments everywhere need to work on pulling energy and food prices down in line with wholesale prices, lest they turn into existential threats for their electorates and a subsequent threat to political stability,” said Simon Quijano-Evans, chief economist at Gemcorp Capital Management in London.
In Turkey, where incumbent Recep Tayyip Erdogan is facing a broadening group of opposition parties, the lira has lost 4.1% this year against the dollar to underperform most emerging-market peers. Expectations for further depreciation and higher volatility around the election has led banking group Swissquote Bank and at least one local brokerage to say they will suspend trading on all Turkish lira currency pairs for several days.
The steps reflect deepening concern about unpredictable, wild swings in Turkish markets regardless of who wins the elections. The lira’s one-month implied volatility against the dollar rose to the highest level in more than a year last week.
The stakes are also high in Argentina, which is set to choose its next president in October. President Alberto Fernandez, Vice President Cristina Fernandez de Kirchner and opposition leader Mauricio Macri have all ruled out their candidature at a time when the country beset with three-digit inflation is moving toward a recession.
The peso has fallen as much as 40% in parallel markets this year as local investors buy dollars to hedge against 104% inflation, which isn’t seen slowing this year. Argentina’s overseas bonds have fallen deeper into distressed territory as the central bank’s international reserves slump to their lowest since 2016.
Twin Crisis
In some countries, a debt crisis and a political crisis are arising in tandem. Pakistan Prime Minister Shehbaz Sharif is fighting for power even as the country is fighting to avoid a default as an International Monetary Fund bailout has been stalled. Elections are due by October.
“The election which interests me most is Pakistan’s as it is so close to default,” said Charles Robertson, global chief economist at Renaissance Capital Ltd. “In the US, everyone is looking at big regional banks to see who’s next. In emerging-market debt, Pakistan is like a large US regional bank.”
While emerging markets brim with political risks, some investors are trying to spend this volatile phase focusing on long-term opportunities outside of nations with high political uncertainty. New York-based GW&K Investment Management is betting big on China as it sees an earnings and margins recovery driven by consumer-focused companies.
“The geopolitical risks surrounding China continue but are all well priced in,” said Nuno Fernandes, an equity money manager at GW&K. “The economic recovery and the earnings cycle are more compelling.”
He warned that investors should stick to big opportunities like China and India, unless they have the “deep knowledge and courage to go into those smaller countries.”
What to Watch
- In Brazil, investors will watch both the minutes of the central bank’s most-recent meeting and a reading of April inflation
- Argentina’s April consumer price data may show a new rise in inflation rate as currency pressures mount, according to Bloomberg Economics
- Mexico’s headline and core inflation are poised to decelerate again in April, according to economists surveyed by Bloomberg. They also assign a higher probability that Banxico will hold its benchmark rate at the May 18 meeting
- Bloomberg Economics expects China’s April aggregate social financing to slow, reflecting a drop in monthly bank loans and lower corporate bond issuances
- Consumer price inflation will also be in focus from China and India, as will GDP data in Malaysia and the Philippines
–With assistance from Scott Squires.
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