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Vying with valuations: top managers' tactics for ‘expensive’ EMD

Vying with valuations: top managers' tactics for ‘expensive’ EMD

Citywire + rated Michael Gomez, head of PIMCO’s emerging markets portfolio management team, has enjoyed success from turnaround stories anchored by strong balance sheets that have been unfairly punished by the markets.

‘Likewise, we have been benefiting and continue to benefit from idiosyncratic stories which are somewhat uncorrelated from the beta of the market,’ says Gomez, who is ranked fifth in the local currency tables over five years.

Being successful in emerging market debt requires balancing several inputs to the overall investment strategy, he says.

The first is developing a well-defined top-down view of the relevant risk factors, such as interest rates in core markets, the US dollar and commodities.

‘Next is developing a bottom-up understanding of the investment universe within emerging markets, including thorough fundamental and political analysis of the credits involved,’ he says.

Gomez also says you need a sense of the technicals in the market, including positioning and flows, in order to spot and assess potential market dislocations.

‘Lastly is being disciplined about valuations to ensure that we are appropriately compensated for the risks we take,’ he says. ‘Having a disciplined process that encapsulates these four inputs has served us very well over the years.’

Gomez (pictured) is constructive on emerging markets, especially given the fundamental turnaround he is seeing in a number of economies after a few years of disappointing growth.

‘Valuations still look attractive, particularly relative to other markets,’ he says.

However, Gomez recognises there is still a fair degree of uncertainty, be that within geopolitics or central bank actions, while valuations outside of emerging areas appear stretched.

‘Our positioning is cautious, staying up in quality when it comes to balance sheets,’ he says.

As far as asset classes are concerned, he believes emerging market local debt looks compelling for a number of reasons but concerns remain.

‘Investors need to be aware that this is an asset class that is notoriously volatile and very sensitive to US dollar trends,’ he says. ‘In fact, we tend to fund some of our emerging market local debt positions with several currencies in order to remove some of the US dollar risk in the portfolio.’

Bright outlook

A-rated Sergei Strigo, manager of Amundi Funds Global Emerging Hard Currency strategy, is also optimistic about the prospects for emerging market debt.

‘There have been very significant inflows into emerging market debt during 2017 and we believe this will continue and be supportive of the performance for emerging bonds,’ says Strigo, who is ranked 10th and fourth in hard currency tables over three and five years, respectively.

His stance is fuelled by the belief that although investors are still underweight emerging market debt they are starting to feel more comfortable putting their money into this area.

‘The fundamentals story in emerging markets is improving across the board,’ he says. ‘Generally, the macroeconomic situation is better now than a couple of years ago.’

He is also relaxed about valuations. ‘While I can’t say emerging market debt is extremely cheap because it has had a very good run, compared to some other assets it still offers value.’

Strigo regularly rebalances his portfolios and highlights the profitable trade a few years ago in central eastern European countries within the hard currency space.

‘You had the ECB lowering rates and quantitative easing, so countries like Romania, Poland, Hungary and Croatia saw their bonds, in euros, rallying significantly,’ he says.

More recently he has had exposure to Latin America. ‘We’ve had pretty dramatic political change in the region, especially in Brazil and Argentina, which has been positive,’ he says.

Strigo is also keeping his overweight positioning in the hard currency bond space – on both US dollar and euro-denominated government and corporate bonds.

‘We think this is a solid asset class and will continue to have good performance with lower levels of volatility compared with the other asset classes in emerging market debt,’ he says.

On the local currency side he’s more selective. ‘We don’t have being overweight on the local currency side as a structural trade – it’s more a country-by-country type of trade.’

These comments originally appeared in a supplement which was published with Citywire Selector’s December magazine.

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