Article

EMLD World Tour March 2021: Egypt in focus and inflation under wraps

EMLD: Egypt

Invesco’s Global Debt Team publish monthly emerging marketing local debt (EMLD) outlooks and a spotlight on a new country each month, and below is their update for March. The team are based in New York and are part of the Invesco Fixed Income investment centre, known as IFI. To learn more about Invesco’s Global Debt Team, click on the link for your local website below.

Country spotlight: Egypt

One country that has been relatively steady to start the year, and for good reason, is Egypt. We have been investing in its local markets for the last four years - initially in local treasury bills but lately in three to five-year paper.

During this time, Egypt has emerged as a bright spot for investors, with an improving macroeconomic outlook and a relatively stable political environment. However, following the successful completion of a three-year International Monetary Fund program, the Covid-19 pandemic threatened to derail Egypt’s economic recovery.

Although the Sisi government loosened lockdown restrictions last June to manage the impact of the pandemic, Egypt’s economic activity was hurt significantly, especially in sectors such as tourism. Weak global trade and the deep decline in the economies of Egypt’s key European trading partners also damaged its export volumes.

Despite these headwinds, interest rates and the currency have held steady.  With a relatively diversified economy, continued commitment to fiscal reform and stable external funding support, we believe Egypt is well-positioned to continue to weather these challenging conditions and we maintain a positive outlook on its economy.

Egypt has a large domestic market, which is driven by domestic investment, primarily in infrastructure, and agriculture. The agricultural sector was not materially affected by the COVID-19 pandemic. Meanwhile, public investment, led by the government and military sectors, was briefly halted in the initial months of the pandemic, but quickly resumed in April 2020, helping to anchor Egypt’s economic growth.

As a result of the diversified nature of its economy, Egypt saw an annual growth of 3.5% in GDP in the 2020 fiscal year, emerging as the only country in the Middle East and north Africa region to have avoided a contraction (see Figure 1).

Figure 1. Gross domestic product (GDP, constant prices) growth for fiscal year 2020 in the Middle East and north Africa region

Source: International Monetary Fund, World Economic Outlook Database. Data as of October 31, 2020.

Egypt has made significant progress on restructuring its economy, making improvements on governance standards, the business environment and income per capita.

Many of these improvements are driving investor confidence in Egypt as an investment opportunity. While we recognize that there remains room for improvement in terms of Egypt’s macro social factors, such as public safety, voice and accountability and political freedoms, we view political and geopolitical risks as broadly contained.

In our opinion, the Sisi administration continues to make progress on mitigating domestic discontent by improving social safety nets and implementing structural reform to improve the business environment. We continue to monitor these factors closely, as our outlook on Egypt continues to evolve.

What’s next in emerging market debt?

With global growth numbers looking extraordinarily positive and (we believe) inflation not a worry, we expect to see renewed inflows into emerging markets. This could result in flatter yield curves in those countries likely to achieve fiscal consolidation in the next two to three years – so countries that are able to bring deficits under control.

While we expect an uptick in inflation in the next few months due to base effects and commodity price pressures, in general, we believe most central banks will not even start to think about rate hikes until their economies have started to reach potential (so their output gap closes).

We believe interest rate and currency valuations in emerging markets are now more attractive than they were at the end of last year. From a high-level positioning perspective, we remain comfortable holding some duration, as we expect interest rates to fall, mostly around the five-year part of the EM yield curves. This is broadly due to their carry versus the US dollar and roll potential.

We also remain underweight the long end of these curves and have moved underweight at the front end, maintaining our typical underweights and overweights by country, depending on the idiosyncratic story.

Our currency exposure remains overweight to Asia and underweight to Latin America and the opportunity on the currency side is potentially significant, in our view.

Clients often ask about the possibility of US growth outperforming the rest of the world, versus current expectations. There is concern that this could result in a stronger dollar, similar to what we saw play out in February. 

However, while the US may grow faster than the rest of the world, we believe the impact of better global growth outweighs the importance of the growth differential in determining the direction of the US dollar.

We believe the key factor in this dynamic is the anchoring of front-end US interest rates. We are not worried about the impact of a long-end steepening of the US yield curve at this time, as long as the front-end stays put.

We continue to believe that global macro conditions, combined with the current shift in central bank frameworks, are setting the stage for a sustained outperformance of EM assets over the next three to five years.

Growth fueled by progress on global vaccinations is likely to gain momentum in the coming years and the changing policy framework at the US Federal Reserve (Fed) should ensure that financial conditions in the US remain favorable for this self-sustaining EM cycle.

What’s happening in emerging markets now?

Most central banks remain on hold. We believe we saw what could be the last interest rate cuts in Indonesia and in Mexico in this cycle, at least for now.

The repricing of US interest rates has been a key driver of markets in recent weeks. Excitement about US growth (vaccines plus fiscal stimulus) has caused investors to test the Fed on its average inflation targeting regime.

The market priced in higher inflation and brought the hiking cycle forward, but we believe this will be corrected. We believe the new Fed framework will hold, and Fed Chair Jerome Powell confirmed this in his recent remarks: he maintained that a steeper US yield curve is acceptable, as long as front-end rates remain anchored.

Given this policy stance, we believe recent market moves will not have a negative impact on the medium-term outlook for emerging markets. On the contrary, it confirms our view that there is a three-to five-year cycle of good global growth on the horizon, which, combined with a lower US dollar, will be potentially rewarding for emerging market investors.

success failure

Keep up-to-date

Sign up to receive the latest insights from Invesco’s global team of experts and details about on demand and upcoming online events. 

Keep up-to-date

When you interact with us, we may collect information about you which constitutes personal data under applicable laws and regulations. Our privacy notice explains how we use and protect your personal data.

If your interests change, you can update your preferences at any time.

This site is protected by reCAPTCHA and the Google Privacy Policy and Terms of Service apply.

Like what you see?
Hear first about events and get insights from our global network of investment and policy experts
Sign Up

Investment risks

  • The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations) and investors may not get back the full amount invested.

    When investing in less developed countries, you should be prepared to accept significantly large fluctuations in value.

    Debt instruments are exposed to credit risk which is the ability of the borrower to repay the interest and capital on the redemption date.

    Investments in debt instruments which are of lower credit quality may result in large fluctuations in value.

    Changes in interest rates will result in fluctuations in value. 

Important information

  • Data as of 31 January 2021 unless stated otherwise.

    This document is marketing material and is not intended as a recommendation to invest in any particular asset class, security or strategy. Regulatory requirements that require impartiality of investment/investment strategy recommendations are therefore not applicable nor are any prohibitions to trade before publication. The information provided is for illustrative purposes only, it should not be relied upon as recommendations to buy or sell securities.

    Where individuals or the business have expressed opinions, they are based on current market conditions, they may differ from those of other investment professionals, they are subject to change without notice and are not to be construed as investment advice.