This Day On The Street
Continue to site right-arrow
This account is pending registration confirmation. Please click on the link within the confirmation email previously sent you to complete registration.
Need a new registration confirmation email? Click here

The Real Risk in Emerging Markets (Including Video)

TheStreet Premium Services

A complimentary preview
of Options-Profits Previews

This content brought to you by TheStreet's OptionsProfits. CLICK HERE FOR A 14-DAY FREE TRIAL.

Two recent papers have changed how market participants are thinking about capital flows and risk in emerging markets. Typically, economists monitor balance of payments (BoP) accounts to determine how dependent countries, especially developing economies, are on external sources of capital to finance their imports and debt service. When countries running large current account deficits see foreign investors begin to pull out their funds or demand higher rates for borrowing, it typically causes problem for the deficit country.

That's all common knowledge, but what these papers reveal is that, in recent years, much of the borrowing in emerging markets hasn't been counted in standard current account surplus/deficit figures. The reason is that external debts are typically recorded based on the residence of the borrowing institution, rather than on the nationality of the borrower. Specifically, emerging market corporations having been issuing debt in foreign countries denominated in foreign currency. Because developed market interest rates - especially in the U.S., during the period of QE - have been so low, it has made sense for these emerging market corporates to borrow, for example, in USD and invest those funds in higher-yielding opportunities whether in their home countries or abroad.

International debt securities outstanding (all borrowers) by residence and nationality of issuer. Source: BIS, Shin 2013

The chart above shows how different those debt obligations look for a country like China when figures are adjusted to include securities issued by Chinese corporate firms through subsidiaries in other countries. The charts look similar for Brazil, India, etc.

As QE ends and borrowing costs rise, these flows will naturally reverse, and the size of the debt load presents serious challenges for EM deficit countries. Two things investors should be thinking through are: 1) how previously low estimates of EM obligations and the revised figures should change foreign investor attitudes about the riskiness of investing funds in countries where current account deficits so large, especially as the U.S. turns gradually toward a tighter, rates-up environment; 2) the linkages and the risk of contagion from EM to developed market financial assets: since low DM rates have been used to fund the chase for yield by EM corporate borrowers and asset managers, even DM countries with strong growth prospects could see asset sales as this "carry trade" unwinds.

This is a topic whose consequences will play out over many months, and we will come back to it with some ideas about portfolio balancing and specific investment ideas. In the mean time, some reading:

Philip Turner, "The global long-term interest rate, financial risks and policy choices in EMEs," Hyun Song Shin et. al., "Global Liquidity through the lens of Monetary Aggregates," Jill Malandrino of The Street's Options Profits and I dive more into the subject in this video:

OptionsProfits can be followed on Twitter at

Jared can be followed on Twitter at

EXCLUSIVE OFFER: Jim Cramer's Protégé, Dave Peltier, only buys Stocks Under $10 that he thinks could potentially double. See what he's trading today with a 14-day FREE pass.

Select the service that is right for you!

Action Alerts PLUS
Try it NOW

Portfolio Manager Jim Cramer and Director of Research Jack Mohr reveal their investment tactics while giving advanced notice before every trade.

Product Features:
  • $2.5+ million portfolio
  • Large-cap and dividend focus
  • Intraday trade alerts from Cramer
  • Weekly roundups
TheStreet Quant Ratings
Try it NOW
Only $49.95/yr

Access the tool that DOMINATES the Russell 2000 and the S&P 500.

Product Features:
  • Buy, hold, or sell recommendations for over 4,300 stocks
  • Unlimited research reports on your favorite stocks
  • A custom stock screener
  • Upgrade/downgrade alerts
Stocks Under $10
Try it NOW

David Peltier uncovers low dollar stocks with serious upside potential that are flying under Wall Street's radar.

Product Features:
  • Model portfolio
  • Stocks trading below $10
  • Intraday trade alerts
  • Weekly roundups
Dividend Stock Advisor
Try it NOW

David Peltier identifies the best of breed dividend stocks that will pay a reliable AND significant income stream.

Product Features:
  • Diversified model portfolio of dividend stocks
  • Alerts when market news affect the portfolio
  • Bi-weekly updates with exact steps to take - BUY, HOLD, SELL
Real Money Pro
Try it NOW

All of Real Money, plus 15 more of Wall Street's sharpest minds delivering actionable trading ideas, a comprehensive look at the market, and fundamental and technical analysis.

Product Features:
  • Real Money + Doug Kass Plus 15 more Wall Street Pros
  • Intraday commentary & news
  • Ultra-actionable trading ideas
Options Profits
Try it NOW

Our options trading pros provide daily market commentary and over 100 monthly option trading ideas and strategies to help you become a well-seasoned trader.

Product Features:
  • 100+ monthly options trading ideas
  • Actionable options commentary & news
  • Real-time trading community
  • Options TV

Partners Compare Online Brokers

Top Rated Stocks Top Rated Funds Top Rated ETFs