Country risk: The safest and riskiest emerging markets


Jeremy Weltman
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Emerging markets are challenging the traditional safe havens as low-risk investment locations, according to Euromoney’s Country Risk Survey. Chile may be a well-established story by now, but there are other attractive alternatives, including Peru, Qatar and Turkey, that also boast improving risk scores. But buyers beware: several markets once thought to be great investment hopes are falling out of favour. Jeremy Weltman reports.

Emerging markets have made up a large proportion of the top performers in Euromoney’s Country Risk Survey in recent years, as economists reacted to the greater attractiveness of developing economies in the wake of the global credit crunch and eurozone debt crisis.

A close inspection of ECR’s survey data over the past five years uncovers several high flyers and fast climbers in the global rankings. There are several medium-to-large emerging markets with expanding populations and much safer political systems than perhaps anyone could have envisaged just a few decades ago. They are also displaying considerable economic and structural advancement, as well as safer fiscal metrics than established sovereigns that will assuage investor concerns (see table, below, showing the fastest climbers among the top 100 sovereigns in ECR’s survey).

Source: ECR

Chile tops the risers

Chile, a $300 billion economy (according to its nominal GDP at purchasing power parity) and currently ranking 16th with a score of 74.7 out of 100, is a well-documented example. An early introducer of free-market reforms, including a model private pension system copied by the UK, the mountainous strip on Latin America’s west coast has long proved its mettle as the region’s most advanced, prosperous and least-risky nation. Noted for being the world’s leading copper producer (state-owned Codelco controls around one-fifth of the world’s reserves), Chile recovered quickly from the dual effects of the global crisis in 2008 and an earthquake tragedy two years later. Better business confidence, high copper prices, robust banks protected from Spanish woes, and responsible policies have revitalised the economy and bolstered Chile’s appeal among risk experts.

The sovereign may have its share of economic problems – the current account has moved from surplus to deficit and fiscal surpluses have whittled away in recent years – but the large budget deficits causing aggravation across Europe have been avoided. Debt levels are comparatively low and there is ample foreign-exchange cover. No wonder that Chile has climbed 28 places in the global rankings over the past five years, seemingly in a tussle for supremacy with the US, just one place above it at 15, with only half a point now separating the two.

Other noteworthy climbers

If Chile is now a well-established story (it hasn’t after all made any further gains in ECR’s rankings over the past two years), then which other emerging markets are gaining ground? The ECR survey highlights quite a few, and investment-grade Estonia is a prime example. A borderline ‘emerging’ nation in the wake of its development since the break-up of the former Soviet Union, the $27 billion eurozone economy has climbed 24 places in the rankings since 2007, 22 in the space of just two years, to become, as ECR has recently pointed out, the safest economy in the central and eastern European region.

Economic growth has moderated, but remains positive, and the country benefits from its strong fiscal position – a budget surplus of 1.1% of GDP in 2011 and gross debt of just 6.1% of GDP provide ample wriggle-room if necessary to shield the economy from a global downturn. The country is not so acutely exposed to eurozone export markets, either, or banking sector contagion – its links to Sweden and other countries help in this regard.

Similarly, Slovakia (an economy of some $127 billion, similar in size to Ecuador and New Zealand) has a low level of general government debt by European standards, just 43.3% of GDP at the end of last year – around half the EU average. The government has successfully lowered the budget deficit over two years from 8% of GDP in 2009 to 4.9% in 2011 on the back of continuing economic growth. The sovereign has climbed 19 places in the rankings since 2007, to 26th; while risks remain, the IMF feels things are well enough to report earlier this year: “All in all, Slovakia’s post-crisis economic performance has been among the strongest in the euro area.” This has been clearly demonstrated in its ECR score trend and rankings shift.

The Middle East throws up new opportunities

There is also value to be found outside Europe, with several countries in the Middle East performing strongly in ECR’s survey since 2007. Although not shown in the table, Qatar is a prime example. The $175 billion sovereign has avoided the political and social upheaval afflicting other parts of the region and continues to enjoy strong economic growth, underpinned by its ‘in-demand’ liquefied natural gas industry.

With a score of 74.5, Qatar has climbed into ECR’s top 20 least-risky sovereigns (that’s all sovereigns, not just the emerging ones), rising four places over the past two years and a considerable 14 over the past five. Its hydrocarbons export earnings continue to support large current account and fiscal surpluses. This stream of gas revenue is partially recycled back into the economy in the form of public investments, generating a self-sustaining growth cycle, as well as into sovereign funds, storing up future wealth; the country is vulnerable to price shocks in hydrocarbons, but its debts, crucially, are non-existent and import cover is high.

But even Qatar is now an established story (certainly among the tide of migrant western professionals seeking its highly paid jobs), which suggests there is more information value to be found from other climbers in the region. Kuwait (a $153 billion economy) and Oman ($85 billion) have both ascended ECR’s global rankings at a faster pace than Qatar over the past few years. Kuwait, on a score of 69.1, has climbed 14 places since 2010 to 25th, and Oman (scoring 66.2) is up 12 to 29th (a total of 18 places since 2007), and not just because of traditional economic/currency/fiscal indicators. Both countries have seemingly made some improvements to their poor images for corruption and information transparency, according to their higher sub-factor scores. Despite this, both sovereigns are still considered riskier (overall) than their gas-rich neighbour, according to ECR’s experts.

Tech-savvy Israel, another surprising safety spot in a tense region, divides those two in the rankings, having climbed four places over the past two years, and 12 since 2007, to the lofty heights of 27th on a score of 67.7. While evidently vulnerable to border conflict and fractious domestic politics (its government stability score has fallen sharply since 2010), the sovereign has seen a large improvement in its economic outlook and currency stability sub-factor scores by avoiding insurmountable deficit and debt problems. It is continuing to grow, albeit at a more subdued pace in the current global climate. The $237 billion economy is now almost as large as Portugal’s, a country in decline.

Beyond the Middle East a handful of other nations also deserve attention. Peru, which has climbed 25 places since 2007, into ECR’s top 50, has not gone unnoticed; Uruguay, not far behind in 61st position has jumped 24 places. Both nations have shown up on LatAm investors’ radar. Turkey, a larger market, has also progressed, climbing into ECR’s top 50 on the back of a 21-place rise since 2007, a trend that has recently been rewarded with a ratings upgrade, which ECR explains.

Colombia’s time has come

An even more surprising flight to safety has been displayed by Colombia. The $472 billion economy, on a par with the likes of Pakistan and Malaysia, is now at 40th in the global rankings, having climbed 33 places since 2007. Afflicted by strife related to its drugs trafficking that pits the government against Marxist guerrillas, the sovereign appears to be on the cusp of a possible peace deal. Its problems may be unlikely to disappear any time soon – a recent Gallup poll highlights concerns about security, unemployment and the cost of living, while getting unity from the political divide has been elusive in the past – but against this adverse backdrop the government has received acclaim for its strong policymaking credentials. 

Source: ECR

Boosted by oil and other mining sector investments, as well as by strong business and consumer confidence, the authorities have managed to sustain economic growth since the global crisis, keep inflation under control and advance structural reforms. The peso has been supported by export earnings and inward FDI flows. Colombia’s economic, political and structural assessment scores are all considerably above LatAm averages.

Interestingly, Colombia’s financial system risks are remarkably low. The sovereign has the third highest bank stability score in the region (6.9 out of 10), according to ECR, trailing only Belize and Chile in the safety stakes. This is backed up a range of financial soundness indicators calculated by the IMF. They indicate that Colombia’s banks have high capitalization levels, reasonably low-levels of non-performing loans, with ample provisioning, and some of the highest returns on banking assets and equity among LatAm’s larger nations.

Watch out for the fallers

While sovereigns with lower risk are enticing investors, those becoming more risky are causing anxiety. The emerging markets are a disparate lot, yet the analysis of the climbers in ECR’s global rankings can be just as easily replicated for the fallers. Here, again, care must be taken to avoid placing too much emphasis on very small markets. Several of these – usually the low-scoring countries in ECR’s survey – are less well covered by the experts, so the impact of any changes in scores can seem more important than is the case in reality. In contrast to the climbers, where five-year trends are useful, falls over the past two years seem more important intuitively. Experts can lose faith quickly in reaction to market-moving events, for example, and what may appear to be a gradual decline over five years could be more pronounced over the past two. 

Source: ECR

With the eurozone countries included for comparison purposes, there is no surprise that Greece tops the list for its two-year score shift (see table); the country’s debt problems have been well-documented. Portugal is another of the top 10 fallers, while Ireland (down 20 places to 46th) and Spain (19 places to 56th) are not too far behind. Beyond the advanced nations, security problems, ranging from revolutions and terrorism to outright warfare, have prompted sharp falls for Yemen, Pakistan, Libya, Egypt and Syria. Pakistan’s fiscal problems are proving to be just as worrying, as ECR has recently discussed.

Faith lost in former favourites

Identifying those markets already quite high up ECR’s scale, with only moderate risks but having fallen sharply over the past two years, is a more useful illustration of emerging markets in danger. Here the right-hand side of the table is relevant. It shows the top 10 downward shifts within ECR’s top 100, excluding the eurozone. Heading the list is Lebanon (a $61 billion economy, approximately the size of Slovenia and Lithuania).

Its domestically driven financial system and borrowings shielded the country from the global financial crisis, supporting economic growth and dampened concerns about high deficit and debt levels. However, the sovereign’s internal political instabilities, compounded by the regional unrest (not least the conflict in Syria) are now raising question marks over Lebanon’s risk profile. Other prominent fallers – Ukraine, Albania and Vietnam – have been all highlighted by ECR this year in connection with a range of problems, as have most of the other big fallers in the rankings, including India, the world’s fifth largest economy with a GDP now exceeding $4 trillion.

One emerging market seemingly receiving less attention, however, is Serbia. The $79 billion sovereign has been unable to avoid a small economic contraction this year. Inflation has increased, while a double-digit current account deficit and rising debt levels both highlight large imbalances. Now on a score of 40.1, the sovereign has lost the faith of ECR’s experts over the past few years, having fallen 16 places in the rankings to 86, culminating in downgraded credit ratings. ECR’s constantly updated survey thus continues to reflect changes in the safety of the emerging markets. These trends may be forcing investors to rethink old strategies.

This article was originally published by Euromoney Country Risk