Do emerging market economies still constitute a homogenous asset class?

Abstract

The fundamentals of emerging market economies (EMEs) have improved significantly over the past few years and their integration into the global economy and international financial markets has strengthened. In 2005, net inflows of foreign private capital to EMEs reached a record level of USD 400 billion. Outstandings of government securities issued by EMEs on international markets increased six-fold between 1994 and 2005, rising from less than USD 50 billion to over USD 300 billion. Over the same period, their bank loan outstandings were more than halved, falling from USD 250 billion to USD 100 billion. This considerable surge in market financing has been underpinned by substantial efforts to modernise the financial sector, which has enabled EMEs to offer investors an increasingly wide and sophisticated range of financial instruments and thus to attract new types of investors. Overall, EMEs are tending to put in place financial structures similar to those in advanced countries (1|). At the same time, several recent indices suggest that investors no longer necessarily regard emerging assets as a homogenous bloc in their portfolio choices. Their wariness vis-à-vis these markets and their attendant risks appears to be shifting towards greater discrimination between EMEs on the basis of their specific characteristics, or the type of financial instrument offered (2|). Nevertheless, these trends do not prevent emerging markets from being subject to occasional disruptions, especially if the economic and financial environment were to become less favourable. The narrowness of these markets, the dependence on the decisions of non-resident investors, and the low level of risk premia maintain uncertainty as to their reaction in the event of large-scale unforeseen shocks (3|). Against this backdrop, market participants are justified in basing their investment and financing decisions on a range of criteria assessed over the whole economic cycle.