Indonesia's recent credit rating upgrades are good news for Emerging Market Debt investors in general and confirm that the overall quality of the asset class continues to improve, according to Jonathan Mann, Head of Emerging Market Debt at F&C.
Following Fitch Ratings' upgrade in December, Moody's has now also returned the country to investment grade for the first time since the Asian financial crisis.
The improvement in quality of the asset class becomes most visible when taking a look at major global emerging market debt indices, where Indonesia's weight varies between 6-10%. In the J.P. Morgan EMBIG Diversified Index, Indonesia is one of its biggest constituents with a 6.1% share. The upgrade to investment grade level does not change the composition of the index, but it increases the overall quality of the asset class. And Indonesia is not an isolated case. More and more emerging market economies are winning rating upgrades as governments take steps to contain budget deficits and bolster growth.
At the same time, emerging market spread levels remain high, which makes it an attractively valued asset class for investors. According to the J.P. Morgan EMBIG Diversified Index, at 404 basis points spreads were 130 basis points higher at the end of 2011 than at the beginning of the year. Capital inflows into the asset class were sustained, and over the whole year reached 45 billion USD according to JP Morgan.
Jonathan Mann, Head of the Emerging Market Debt team at F&C, commented:
"Whereas funds that invest in European sovereign bonds have disappeared from well-known fixed income product performance tables, emerging market bond funds have established themselves as inherent part of it. We expect inflows to increase throughout 2012, because investors are still structurally under-invested in emerging markets. Looking at risk-return profiles, many investors have scope to increase their weight in the asset class substantially."
In 2012, the differences between developed and emerging countries in terms of economic growth, financial strength and credit rating trajectories could become even starker. Many Emerging markets are benefiting from healthy state finances, low budget deficits, solid balance of payments, well capitalized banks and greater flexibility in terms of monetary policy.
Mann said: "We expect continued weak economic growth at the global level, which could put pressure on export volumes and soften commodity prices. But a deceleration in exports from the emerging markets will be substituted by robust domestic demand. This will help to absorb the effects of lower commodity prices on budgets and trade balances. And even if aggregate Emerging Market growth slows to a pace of around 5%, we still believe that creditworthiness, especially of sovereign bonds, could continue to improve at the same time."
He concluded: "Emerging markets monetary policy bias is shifting from inflation towards growth which also implies exchange rate shifts. While monetary stimulus will be key for the BRICs, certain countries such as Turkey and Colombia are likely to tighten monetary cycles."
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