Emerging market hard-currency debt has increased to a record $1.7trn today from $600bn in 2008, according to SSGA. The rising debt level has coincided with a sharp slowdown last year in the economic growth of these countries, which impairs the ability to service that debt.
EM corporate debt, therefore, could be a major risk for investors in 2016, with central bank policies (including those of the US Federal Reserve) likely to be a key swing factor, Kevin Anderson, the firm’s head of investments in Asia-Pacific, told FSA.
”If the US Fed increases interest rates by more than two times this year, that would be consequential to some areas of the market, in particular, for example, hard currency debts in the emerging markets.
“The Fed’s [recent] comments continue to be dovish and based on the latest inflation figures, it would appear to us that there will be two rises this year at most, significantly moderated from three and four rises many investors were expecting this year,” he said.
Among emerging markets, Brazil and Russia are both in recession, with finances affected by depreciating currencies and falling commodity prices, resulting in an external corporate debt in Russia of $74bn and in Brazil, $95bn, he added.
“If commodity prices don’t appreciate, we could see default rates rise,” he said.
Complicating the situation are moves by emerging market central banks that have allowed local currencies to devalue as a form of “backdoor quantitative easing” to stimulate growth. This, however, will only further stress holders of dollar-denominated debt, he said.
“Given a slowing economy and the risks of further currency devaluation, emerging market debt appears poised to further strain the global financial system.”
China is of specific concern. More than half of corporate emerging market debt orginated in China, where the corporate credit level is at 135% of GDP, he said.
A lot of China’s debt-fueled spending now appears far from optimal. Investments in manufacturing led to excess capacity, while an aging, increasingly affluent population balks at factory work and drives up labor costs, he added.
Non-performing loans rose to nearly $200bn as of the end of 2015, and the Chinese government continues to open the credit spigot, hoping to keep growth over 6.5%, he said.
Safe havens in coportate debt issuance are increasingly difficult to find, and not just in emerging markets, Anderson added.
“The investment-grade credit markets [globally] still offer a sensible risk-adjusted return based on a gradual increase in rates by the US Fed,” he said.
“One needs to analyse the macro factors very carefully.”