Exchange offices in Istanbul, Turkey seen on October 28, 2020. Due to the increase in exchange rates and the economic instability, people change currency and buy Turkish lira.
Erhan Demirtas | NurPhoto via Getty Images
LONDON — Emerging market assets are highly sensitive to the increased prospects of tapering from the U.S. Federal Reserve and geopolitical tensions between the U.S. and China, according to Ozan Ozkural, managing partner at Tanto Capital Management.
Treasury yields rose sharply on Monday as Fed officials hinted that a slowing of the central bank’s asset purchases could be necessary this year, while opening the door to discussion over potential hikes to interest rates.
In 2013, the Fed said it would taper off its Great Recession economic stimulus by slowing down the pace of its Treasury bond purchases. The ensuing investor panic triggered a sell-off for bonds and surging Treasury yields, which hit emerging market assets, typically considered more risky than their developed counterparts. Emerging markets suffered significant capital outflows and currency depreciation.
Speaking to CNBC’s “Street Signs Europe” on Tuesday, Ozkural said emerging market assets are “very, very sensitive” to any imminent taper tantrum.
“Right now, we are in a bit of a perfect storm in that we need to taper, we have a lot of fiscal stimulus programs out there post-pandemic that need to come to a stop, and obviously central banks are debating ‘can we and if we can, when can we raise interest rates on the back of rising inflation?'” he said.
“All of which ends up with investors having to reprice their risk, reprice their assets, and therefore EM assets are likely to be significantly repriced.”
Still a ‘hunt for yield’
Investors often seek out emerging market debt and other assets when searching for yield in an environment where major government bond yields are historically low, and Ozkural suggested that there will still be a “hunt for yield” should another taper tantrum hit.
However, he recommended that investors be more selective about geographies, in the context of a “looming and growing geopolitical battle” between the U.S. and China.
Diplomatic and trade relations have deteriorated between the world’s two economic superpowers, culminating in an apparent stalemate after officials from Washington and Beijing met in Tianjin late last month.
But while the ripple effects of any divergence of supply chains would be felt across emerging markets, Ozkural said developed markets in Europe would be most vulnerable to a more insular Chinese economy.
“Obviously China is no longer just a cheap production country, it is a heavy consumption country, and whilst the U.S. can fight China effectively, Europe will find it more difficult to do so,” he said.
Should a decoupling of major economies and supply chains happen as feared, Ozkural said the key impact on emerging markets would be felt in East Asia.
“There is going to be a lot more geopolitical pressure on especially East Asian countries, which are being forced to choose a side between a U.S.-led alliance and a China-led kind of world order,” he said.
Sue Trinh, managing director for global macro strategy at Manulife Asset Management, recently told CNBC that the nature of the risk to emerging markets had changed somewhat since the 2013 taper tantrum.
“Current account balances are stronger on aggregate, FX reserve buffers are also stronger on aggregate,” she told CNBC’s “Squawk Box Asia.”
However, Trinh added that relative growth across emerging markets is less favorable than in 2013, real rates are lower, and some countries will be more exposed to external funding conditions. She assessed that Asian economies were “relatively more insulated” than Latin America and Eastern Europe.
Ozkural suggested that while such conditions may put many emerging market countries in a difficult spot, it could be a prospective positive for certain economies.
“Turkey could be one of those countries if it plays its cards right, because a lot of the Western manufacturers will be looking to hedge their supply chain risks, their production risks, out of China,” he said.
Should U.S.-allied economies in the West look to such a move, Ozkural said they would struggle to reallocate such substantial portions of their global production. Faced with this conundrum, he pointed out that Turkey is logistically well placed and has “a quite important manufacturing ecosystem.”