“We think volatility is very high,” said Dwane at a Hong Kong media briefing. “The currencies in emerging markets make it very fraught and also very hard to hedge, and therefore, we are not totally convinced that you are getting paid for the risk you are running.”
Emerging markets face increasing pressure. Capital continues to flow out of the asset class, particularly as the US Federal Reserve is expected to raise interest rates again this year.
“After four years of phenomenal inflows into the asset class, we are now seeing sustained redemptions, and that is making us concerned because of the [lack of] liquidity in the markets,” he said.
The lack of liquidity has exacerbated bond price declines in a bear market and, according to Dwane, it is difficult to price assets in some markets.
Allianz expects emerging market economies that are driven by the commodity markets to remain particularly weak. It expects developed markets to perform better than emerging markets, but that tide could change if the US dollar loses its strength.
“Once the US dollar turns, that might be the time for the emerging markets to come back,” Raymond Chan, portfolio manager, CIO of equities in Asia-Pacific added.
Focus on income
Since the Chinese government devalued the RMB last year, sparking outflows, investors have been jittery. The introduction of market circuit breakers, which triggered trading stops for all stocks, has resulted in a sharp reduction in market liquidity, forcing the regulator to scrap it this month.
“It takes time for emerging markets to become a bit more mature in terms of how it’s going to be regulated. Policy makers will make mistakes,” Chan said.
However, he does not expect a sharp depreciation in the RMB and he is not changing any allocations within the firm’s China strategy. He is focusing on services and consumer-focused sectors as China’s economy undergoes a structural shift from manufacturing to domestic consumption.
In other regions, Allianz likes income-generating European and Asian equities. Income will stand out as the main theme in 2016, as investors continue to search for alpha amid a low growth environment, the firm said.
“We are very constructive on European and Asian high-yielding equities,” said Dwane. “We think there is a combination of some earnings growth and a very good dividend yield,” he added.
Europe is improving, showing economic growth for the first time in five years, the firm said. The unemployment rate is falling and retail sales are rising. The weakened euro is also expected to provide a tailwind for corporate earnings.
US equities the firm finds less attractive. Compared to Europe and Asia, US equities are the “most stretched” in terms of valuations, Dwane said, adding that US dollar strength is a headwind for US corporate earnings.