But it’s the fiscal outlook that deserves a closer look. In our analysis, emerging-market fiscal conditions, which have suffered in aggregate during recent years, may begin to recover in 2024, particularly in countries with lower-rated sovereign debt. The fiscal picture should improve for distressed sovereigns like Argentina and Ukraine—welcome news for investors after recent disruptions in lower-rated sovereigns. We also expect several other countries, including Nigeria and Turkey, to follow through with structural reforms. Cleaner fiscal slates could provide better access to debt markets and pave the way for sovereign credit rating upgrades.
In fact, we forecast fiscal stability or improvement in 2024 for more than 70% of the countries we track in the emerging-market universe. We believe countries that can effectively balance fiscal and monetary policy are likely to outperform. Colombia, Hungary and Indonesia are among the large, liquid sovereigns where fiscal stability and consolidation could provide a market-friendly complement to monetary easing over the year ahead.
Moderating Headwinds and Growing Tailwinds
Because China exercises huge sway over emerging markets, much has been made of its economic slowdown as a headwind to emerging-market debt. We think the bellwether nation’s prospects for the coming year are mixed.
While China’s beleaguered property sector continues to hamper growth, policymakers have stepped up stimulus. That should be enough to make the country’s growth trajectory neither a driver of nor a drag on emerging markets in 2024, in our view. But policymakers’ ongoing efforts will require walking a tightrope, with further policy accommodation needed to maintain a delicate equilibrium.
There is a silver lining: moderating growth in China provides opportunities for other large emerging-market countries, such as India, to help fill the void. In fact, India tops our 2024 global growth forecasts.
Meanwhile, technicals have emerged as a growing tailwind for the emerging-market debt sector. Issuance has been well below historical averages for two years running, and corporate net issuance has trended into negative territory. At the same time, the sector has seen major outflows, with 2022 and 2023 suffering the two largest annual outflows on record.
Limited issuance coupled with significant outflows has resulted in the asset class being under-owned, in our view. Those technical conditions are highly supportive for our outlook in 2024, because inflows have historically followed strong returns.
Local-Currency Debt: Whither the Dollar?
Local-currency debt is influenced by exchange rates, and the US dollar has looked fundamentally overvalued for some time now, in our analysis. With more accommodative US monetary policy on tap for 2024, we believe this overvaluation will gradually unwind, potentially providing support for emerging-market local bonds. We think this is most likely to occur in the soft-landing scenario we anticipate.
Either way, the prospects for local-currency assets could once again hinge on the relative strength of the US dollar, which has seen a lot of variation over the past 40 years (Display).