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The biggest macro risk: not Brexit or Trump, but China

Though US presidential elections are approaching fast and Brexit uncertainty is still riding high, China is the biggest macroeconomic risk right now, according to fund selectors attending the local Expert Investor forum in Barcelona last week.


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Half of the more than 30 delegates said another slowdown in China is the main risk out there. The country scores far higher than the US presidential elections (16%) and Brexit (8%).

Guillermo Besaccia, who manages an emerging market debt government bond fund for China, couldn’t agree more with the Catalans. “I’m surprised how quiet people have been about China [since the ‘China-induced market correction’ at the start of the year]. China is a very important risk that needs continuous monitoring,” he said. Besaccia claimed the country is “a Damocles sword hanging above emerging markets, and perhaps the world in general”.

The ongoing devaluation of the Chinese currency, which has depreciated by 10% against the US dollar over the past two years, the continuing capital outflows and the fast-growing debt pile of the country suggest Besaccia has a point. China has seen steady capital outflows over the last two years, mainly thanks to local investors channelling money out of the country. Moreover, 2016 will be the first year since the Asia crisis in 1999 that foreign investors will be taking more money out of the country than they are bringing in, according to figures produced by the International Institute of Finance (IIF).

The blessings of a devaluation

But James Clunie, manager of the Jupiter Global Absolute Return Fund, disagreed. “There was a Chinese slowdown last year, but is there one now? Cross-border capital liquidity data, a lead indicator for risky asset prices, is improving in China,” he said. “On top of that, a lower currency tends to be good for the economy as it stimulates economic activity,” added Clunie, who has his largest country allocation to the world’s worst performing currency year-to-date (pound sterling).

“After a currency falls, I’d rather be an owner of risk assets in that currency than in one that is still strong,” he concluded.

Even though the US presidential elections were considered only a distant second tail risk after China, one must bear in mind that most investors discount a victory of the status quo candidate, Hillary Clinton. If Trump wins, selected emerging markets, notably Mexico, must brace themselves.

“The potential election of Trump has generated volatility in the peso which has produced a debt problem in Mexico,” said Besaccia. “The currency volatility has contaminated government debt, and foreign investors, who make up a larger proportion of the investors base than in almost any other EM country, have started to exit because they no longer see Mexican bonds as a Treasury proxy.”

Mexican 10-year bond yields have risen some 60 basis points since Donald Trump was confirmed as the Republican presidential candidate in August, and Mexico’s government and central bank are working on a join contingency plan in case the ‘adverse scenario’ of a Trump win materialises.

There is therefore something to say for investing in markets with a strong local investor base in times when the risk of foreign investors running for the hills is high, concludes Besaccia, who has his largest allocations to Brazilian and Polish government bonds. Both these countries have a strong domestic investor base.    

Here you can see a full overview of delegate voting results from Expert Investor Spain.

And here is a slideshow of photos taken at the event.