Though the global environment has pushed further capital flows into emerging markets, some differentiation according to bottom-up developments and fundamentals is still visible in recent post-U.K. referendum performance, notes Barclays. Andreas Kolbe and colleagues point out in their August 11 research piece titled “Differentiation in a correlated world” that though Egypt’s IMF agreement could improve the country’s outlook, implementation risks remain high.

Emerging markets: Turkey’s underperformance likely to persist

Kolbe and team point out that within a continued favorable environment for risk assets, the rally in EM assets has again gathered pace. The global environment, aided by accommodative central bank policies, has pushed further capital flows into emerging markets and caused a broad-based appreciation of EM assets. The analysts point out that mirroring the rally in spreads, investors have rapidly added to net long risk positions in the CDX EM. They note that the net long position is close to being the largest over the past two years:

Net long risk positions Emerging Markets, Capital Flows

The Barclays analysts point out that despite the dominance of flows and global macros drivers, some differentiation according to bottom-up developments and fundamentals is still visible in recent post-U.K. referendum performance.

The analysts note that Turkey has been a notable underperformer among the heavyweight benchmark names following the failed coup attempt. The analysts rate Turkey sovereign credit Underweight, and they believe that further underperformance is likely if or when the country loses its IG rating status. The Barclays analysts believe the prospect of Turkey losing its IG rating status seems more likely than not over the next few months.

Kolbe and colleagues, however, point out that Turkey’s underperformance contrasts with the outperformance of South Africa and Poland from a relative perspective. They argue that in smaller frontier-market EM sovereign credits, bottom-up developments are likely to continue to create idiosyncratic volatility and opportunities.

Outward portfolio investment from China to accelerate

Terming China as a weak spot in Asia, the Barclays analysts point out that last week’s data showed more signs of growth moderation in China. They believe the potential for lower interest rates could be more limited due to a restricted scope for monetary easing in China. They highlight that some of the factors that constrain the central bank from easing policy decisively include: rising financial leverage, shadow banking risks, and a worsening of the asset bubble in China’s housing market.

The Barclays analysts point out that the reaction of USD/CNY fixings to USD movements has remained asymmetric in recent weeks despite a pause in the CNY depreciation trend. The analysts add that the PBoC is more inclined to make comparatively larger adjustments to the USD/CNY fixings when the USD strengthens than when the USD falls.

USDCNY fixings

With the SGD NEER trading in the stronger half of the policy band, the analysts believe the risk for the SGD remains asymmetric to the downside. They believe Malaysian government spending is running well ahead of plan and that the impact of lower commodity prices in 2015 is clearly evident in the fiscal stresses. However, the analysts believe the outlook for India and Indonesia remains fairly positive.

Focusing on the Central American and Caribbean and the North African credit space, the Barclays analysts point out that Jamaica has lagged, even though the constructive story remains intact. They also believe that after the rally in El Salvador, there is room for disappointment.