The lesson of the last few weeks, especially from Mexico, is that investors should look first for a strong currency, where recent capital and current account flows combine to create a net inflow of capital. If this is backed by tight monetary conditions the prospects are better.
The sell-off in emerging markets last year was aggravated by the steady tightening of liquidity in the US dollar. US monetary conditions are currently very tight and close to the turning points of 1981 and 1989. A turnaround will be helpful for emerging markets.
Barings identifies two groups of emerging markets: those which, like Mexico, South Africa, Hong Kong and Malaysia, are relatively sensitive to world economic activity, and those, such as India, China and Russia, which are not integrated with world marketforces. Both groups boom when government policy is favourable to foreign investors and money flows in, before a flood of new issues gluts the market and prices fall back.
Different emerging markets benefit at different stages of the world cycle, with strong inflows into interest-rate sensitive markets such as Hong Kong, the Philippines and Singapore in 1991-93, switching to trade and growth-based Mexico, Taiwan, Turkey, South Korea and Poland in 1993, while the last 18 months have favoured resource-rich markets such as South Africa, Brazil, Chile and Peru.