A single set of statistics neatly sums up the gloom overhanging emerging markets.
Of 22 big emerging markets tracked by JPMorgan, 21 of them have seen their consensus 2016 economic growth forecasts downgraded in the past three months. The shining exception to this downbeat trend is the Czech Republic, where expectations have remained resolutely flat.
Widely acknowledged strugglers such as Brazil, Greece and South Africa have seen some of the biggest downgrades in the past quarter. In Brazil, the market is now pencilling in a contraction of 1.2 per cent in 2016, rather than growth of 0.2 per cent, according to JPMorgan using data from Bloomberg.
Likewise, Greek gross domestic product is expected to decline 1.2 per cent, rather than remaining flat, while the South African economy is forecast to expand 1.6 per cent, not 2.3 per cent.
But the downgrades have also spread to better-run economies. In India, a darling of the emerging market world at present, growth forecasts have been trimmed by 0.2 percentage points to 7.4 per cent, wiping out the previously expected acceleration.
Chile, long held up by orthodox economists as an example for other emerging markets to follow, is now expected to grow at 2.3 per cent, rather than 3 per cent.
Indeed, the downgrades range from commodity exporters, such as Colombia and the UAE, to commodity importers, such as South Korea and Taiwan, and from recession-hit Russia to those performing better economically such as Poland and Hungary.
David Aserkoff, an equity strategist covering central and eastern Europe, the Middle East and Africa at JPMorgan, says the downgrades are partly due to declining expectations for developed world economic growth, which is likely to have a knock-on effect on emerging markets exports.
There is undoubtedly some truth in this, although it should be noted that the downgrades in developed countries have typically been much smaller that in emerging markets, at 0.2 percentage points for the US and 0.1 points for the Eurozone.
Aserkoff also notes the continued slide in the prices of commodities, particularly energy, which has led to downgrades for some big exporters. Again, while undoubtedly true, this does raise the question as to why commodity importers, such as India, Turkey and South Korea, are not seeing upgrades off the back of sliding commodity prices.
Aserkoff argues this is largely down to the policy responses of the importing nations. “We are seeing some good news for emerging markets commodity importers, but a lot of the sovereigns are using this as an excuse to lower fuel subsidies, so the pass through to the consumer is not as good as most people think,” he says.
In other words, lower oil prices, in particular, will help reduce some countries’ budget deficits, but will not lead to stronger economic growth, in the short term at least.
Andrew Mowat, chief emerging markets strategist at JPMorgan, instead says the GDP forecast downgrades have been driven by idiosyncratic factors. In Latin America, Brazil’s recession and political tribulations seem to deepen by the week, with Fitch this week becoming the second of the big three rating agencies to downgrade the country to junk status.
Colombia, a big commodity exporter, has seen its terms of trade turn sharply against it.
In Asia, Mowat says that inflation has fallen sharply in the likes of India (from double-digit rates in 2013 to 5.4 per cent now) and Indonesia (from 8.3 per cent to 4.9 per cent in the past 12 months).
Yet central banks have been slow to cut interest rates, with Indonesian rates remaining flat at 7.5 per cent and India’s coming down just 125 basis points to 6.75 per cent. As a result, “higher real rates led to disappointing loan growth and poor capex [capital expenditure].”
In India in particular, Mowat believes monetary policy is a drag on GDP growth. “India has moved to an inflation targeting regime. The central bank has focused on bringing CPI [consumer price inflation] below 4 per cent. That will be very good on a medium term basis but it’s not going to be good for short-term economic growth,” he says.
“WPI [wholesale price inflation] is minus 4 per cent, the policy rate is 6.75 per cent, so your real [interest] rate for the industrial sector is double digit. People are not going to go out and build factories. I’m really cautious on India.”
For other commodity exporters such as Taiwan and South Korea, Mowat says net exports, particularly in areas such as car sales, have been “disappointing”, with both seeing lower exports this year than in 2014. He attributes this to two factors. Firstly the weakness in the euro (which has fallen 12.1 per cent against the US dollar in the past year) “has translated into a decline in exports in volume terms to Europe”.
“Container traffic is falling from Asia. [European countries] are sourcing instead from the Czech Republic or Turkey, with the lira having followed the euro down. Europe is producing more of the products it is consuming because of the weak euro.”
Secondly, Mowat says high-value east Asian exporters such as Taiwan and South Korea are suffering from a policy of “import substitution” in China.
“[Chinese] car imports are down 20 per cent, but car registrations are up [hitting a record high in November]. China has a policy around import substitution, for instance in petrochemicals, where refining capacity has expanded.”
Declining emerging market GDP growth expectations are mirrored by a slump in consensus forecasts for stock market earnings per share growth.
Again, this phenomenon is not limited to emerging markets. Forecasts for global EPS trends, which will be heavily influenced by the US and other large developed countries, have become steadily gloomier.
The picture for emerging markets, though, is more downbeat still. Analyst expectations for earnings per share in emerging markets in 2015 have fallen 35 per cent since February, outstripping the decline in global EPS expectations.
For 2016, analysts now expect emerging markets EPS to be 37 per cent below the level they foresaw in February, again far larger than the 24 per cent decline in global EPS projections.
Earnings expectations have been downgraded in 16 of the 18 emerging market economies studied by JPMorgan, with Taiwan and the Philippines the only exceptions.
Mowat argues the original estimates were too optimistic because analysts saw declining input prices for industrial producers, disproportionately located in Asia, and assumed they would be able to increase their margins, and therefore earnings.
However the manufacturers were, in turn, also hit by falling prices for their finished goods. “The pricing power for the outputs was weak. It is very difficult to have decent profit growth when you have deflation for industrial goods,” he says.
Aserkoff says the EPS forecasts, both global and emerging markets, were falling largely because “analysts always start off too optimistically.”
He believes emerging market companies are not significantly underperforming their developed world peers, at least when their earnings are measured in local currencies. Instead the sharper EPS downgrades for emerging markets are reflective of earnings being measured in dollars, a currency that has strengthened against the vast majority of emerging market units in the past year.
Financial Times
