HSBC’s fourth Emerging Markets Sentiment Survey reveals that only about a third of the 164 investors surveyed are now bullish on emerging market (EM) prospects over the next three months, down from around three quarters of investors at the turn of the year. Around half of the investors surveyed have adopted a neutral stance and kept adding more cash to their portfolios. Only 21% of investors plan to put cash to work in the near term, which is the lowest ratio since we started our survey a year ago, also pointing to the lack of strong conviction about market direction. Although 2021 started with great expectations, the heightened volatility in the first quarter and a shakier global macro backdrop make it difficult for investors to have a strong medium-term view. To add to these challenges, nearly half of the investors identify inflation and higher rates in the US/globally as the most prominent risk to the EM outlook.

The survey was conducted between 9 March 2021 and 22 April 2021 among 164 investors from 152 institutions representing USD575bn of EM assets under management. The fieldwork was done against a backdrop of core rates volatility, rising inflation concerns and amid a hawkish tilt in monetary policy across various parts of the EM world. With the emphasis in the global reflation debate shifting more towards inflation than growth, we have argued that EM might find it difficult to balance recovery prospects with price pressures. Against this deteriorating growthinflation mix for EM, especially vis-à-vis the US, we still find opportunities, particularly in EM equities and commodity-related stories whilst admittedly moderating our expectations1. Our FX Strategy team also still expects a modest USD decline in the months ahead.2 Risk appetite: We asked what level of risk investors were willing to take at the current juncture, where 0 is ‘no risk’ and 10 is ‘highest risk’. The average score dropped to 6.04 from January’s more bullish 6.86, as a further indication that investors appear more hesitant to add risk.

Fundamentals: In total, 73% of the respondents see EM economic activity improving over the next 12 months, below the 89% with that view at the beginning of the year. Reflecting the recent resurgence of new COVID-19 cases, those who expect the world economy to recover from COVID-19 later than 2021 has risen to 19% in the April survey from 8% in January. More strikingly, 77% of investors expect higher inflation in EM over the next 12 months, which is the highest ratio in a year. Also, 38% of the respondents expect EM policy rates to go up over the next three months, up from 23% in January.

Strategy: Regionally, EM investors appear to be flocking back towards Asia’s relative stability.

From an asset class perspective, we note the reduction in fixed income positions. Overweight positions have declined significantly for both external and local currency debt, and underweight positions have risen. Investors dampened their expectations for EM FX, with a sharp reduction in the number of respondents expecting EM currencies to appreciate in the near-term. 50% of respondents project EM equities to go higher, and 51% expect EM equities to outperform their developed peers, down substantially from January responses of 84% and 75%, respectively.

ESG: Whilst the ranking of the ESG key risks has not changed and still remains as climate change, inequality and minority shareholder protection, the April survey reveals that “water pollution and scarcity” has gained considerable attention as a key environmental risk.