The build-up in credit or leverage in many Emerging Market economies has been an important focus for EM investors given historical episodes of credit crunches and subsequent growth slowdowns. While broadly speaking, EM stocks began to drastically underperform DM stocks at the start of QE3...
Goldman summarizes in a heat map, the EM nations with greatest potential for the upcoming Fed liftoff to cause a major disruption.
The darkest shaded regions indicate the largest risks.
The current credit landscape suggests investors should be cautious on various EMs, although not overly concerned about the aggregate picture.
- China is the “poster child” of credit imbalances and looks most exposed: a rapid private sector credit build-up has caused the credit gap1 to widen out to the highest level across EMs, with high levels of bank leverage as well. The offset is that external and government leverage are at very low levels. Korea is also exposed on similar dimensions, although to a somewhat smaller extent than China.
- Turkey and Mexico have relatively large credit gaps, but the former has seen a more rapid private sector credit buildup in recent years with a thinner reserve cover, whereas Mexico’s overall indebtedness is quite low.
- The Czech Republic and Hungary have high debt levels, with a high proportion of external debt, but other indicators are less worrying.
- India stands out as having a relatively manageable debt burden (and negative credit gap), but the banking sector there appears highly levered, which is a source of concern.
- South Africa has experienced the sharpest build-up in government debt.
Source: Goldman Sachs