EMs to underperform DMs for next few years: Mark Matthews

Mark Matthews of Bank Julius Baer & Co is bearish on emerging markets (EMs) and expects them to underperform the developed markets (DMs) for the next three-five years.

Good stories in EMs will also be overshadowed by the trend of recovery in the US economy. This revival, along with strengthening of the dollar, will put pressure on markets outside US, he cautions.   The monthly nonfarm payrolls (US jobs data) numbers are expected to be released on Friday. The Fed will also consider positive trend in the job data and go ahead with their tapering programme later this year. So, all of this, unfortunately will have a negative impact on the emerging markets, says Mathews in an interview to CNBC-TV18.  Also read: StanChart sees better US job data, weak non-farm payrolls Below is the edited transcript of his interview to CNBC-TV18. Q: In the last couple of days, global markets have been fairly stable but we do have these big data point that we are expecting later today. What are your expectations from this one? How much importance do you think the Fed would give it? A: I cannot give you a sneak preview because I do not have one. It could be better or worse than expected. The automatic data processing (ADP) payrolls that came out yesterday were strong. Although there is no monthly correlation between them and the non-farm payrolls, if you look over time, they trend in the same direction. So whether the payrolls tomorrow are good or bad, think the trend is positive in employment in the US and that will be a reason why the Fed will go through with the tapering in the second half of this year. Q: How does that tie in with the happenings with US yields in the US market and how much more pressure would you expect to see on the bond markets specifically form the emerging market context too? A: The initial reaction in the bond market was a bit of a panic. Had the 10-year treasury yield continued to rise to 3-4-5 percent, then that would have been the end of the bull market and stocks in the United States. As it is, it seems to settle down as people realise that even if the employment trajectory has a positive one, it is still going to take us quite a while to get to the 7 percent level that Fed indicated for short-term rates until second half of next year. The inflation in the US is also about half of what the Fed would like to see it. So, the treasury bill yields should not continue to rise very much from here. Q: What did you make of the comments that came through from the European Central Bank? Is it going to cause a bit of push and pull in terms of liquidity where one balances the other? Or over the course of the next few months, the taper program will hold the strongest? Will money be pulled out of assets including emerging markets (EM)? A: Between the two, the Federal Reserve is the much more important central bank. Both the European Central Bank (ECB) and Bank of England (BOE) - what they did yesterday was slightly surprising. They gave a dovish commentary and provided of forward guidance for the first time in 14 years in the case of the ECB. That was to counter this tapering. They want to continue to ensure that their own bond yields in Europe do not go up too quickly. If you put the two together - a more hawkish Fed and a more dovish ECB, then dollar strength is going to remain in place which will put pressure on stock markets outside of the US. _PAGEBREAK_ Q: It has happened in the first part of this year. Over the next few months, are there going to be extremely differentiated performances across equity markets where EMs continue to be largely underperformers while mother markets like the US actually continue to perform? A: Yes, I do. Last 10 years have been the years of EMs ever since the term BRIC (Brazil, Russia, India and China) was coined. We had this incredible outperformance of the big EMs versus the big developed markets (DM). That trend changed actually back in December of last year and January this year. The EMs started to underperform the DMs and I would foresee that continuing for the next 3-4-5 years as the US economy is getting better. European economies look like they are toughing here. Actually, the data is picking up and Japan’s Quantitative Easing (QE) program  is a very big thing. In the EMs, with a few exceptions, the big ones just really have some issues that need to be resolved. Q: Is the money making any differentiating decision in EMs? People are getting a bit more positive in India as things have improved like our capital account situation. We have got a bit more coming by way of policy impetus. Are people willing to make that call between one and another or is this just a segment they want to avoid in the near-term? A: Unfortunately, it is a segment they will be avoiding and it is very unfortunate because it is very unfair to say that all countries are the same just because they are EMs. We have had great absolute performance of some EMs; for example, here in Southeast Asia last year countries like Thailand and Philippines and going forward there are still good stories in the EMs. But they will be overshadowed by this recovery in the United States and less liquidity in the world, as a result of the tapering and the stronger dollar in the United States. These would also just naturally incline people to be invested there. People usually like to be invested in a country where the currency is strong. Q: What kind of form and shape will movement take then? Will it be those flash strikes for EMs where you lose 7-8 percent in the course of a few trading sessions? Or are markets just going drift off and move out of the radar of any active money managers now? A: It is hard to say. If you really force me to say something about the short-term, we will probably come back in September and October and prices will be below where they are now in the EM space. It is a different story if you have a three year view. They could be up 200 percent. In short-term, it is down and long-term it is up. It really just depends on your time horizon.