Emerging markets are looking increasingly vulnerable as a high tide of liquidity, which has funded an investment spree and driven up asset prices to record levels, starts to turn, a top US banker said on Friday.
"What is going to happen as this liquidity recedes? I think you are going to get a reaction in the markets. The question is when and how much?" said William Rhodes, Vice Chairman of Citigroup and a veteran of Latin American debt bailouts in the 1980s.
Several years of low interest rates in the United States, the euro zone and Japan have fuelled a buying binge in emerging markets, but economists say the days of easy money are drawing to an end as monetary policy tightens.
"There has been a big run up in emerging stock markets. You have a vulnerability there to event risk," Rhodes told Reuters in an interview. "Event risk can start something."
Many investors had been very undiscriminating in piling into often risky emerging market investments and some could be badly burned if there is a sell-off.
Emerging market buying frenzy has been driven by the so-called carry trade which has allowed investors to raise finance in low-interest economies, which they have then used to buy up assets in countries with high-yielding currencies.
"You always get some adjustment when interest rates rise. Inevitably there are casualties with people, who have overreached in terms of yield and spread," he said. "It's difficult to say where the casualties will be."
Rhodes made his remarks on the sidelines of the annual meeting of the Institute of International Finance, a lobby group representing 340 bankers operating in 60 countries. Global current account imbalances have been a major topic of debate at the two-day meeting and were highlighted in a keynote speech by Deutsche Bank chairman Josef Ackermann, who chairs the IIF.
A number of Asian countries, whose economies were badly battered by a financial crisis in 1997-98, have accumulated large currency reserves as a defence against future market upheavals.
"Asian reserves have been built up and one of the reasons is that they see an adjustment at some point and would rather deal with it themselves than go cap in hand to the IMF," said Rhodes.
A new factor adding to uncertainty was the presence in the market of powerful hedge funds and the widespread use of credit derivatives as a hedge against risk.
"In the Asian financial crisis you did not have the big book of credit derivatives and hedge funds were still small. We will have to see what their reaction is going to be," he added.
Comments
Comments are closed.