Protests in Egypt and elsewhere in the Middle East and North Africa have provided a reminder that the political risks inherent in both emerging and frontier markets haven't gone away, experts say.
And while U.S. pension funds' exposure to Egyptian securities is not significant on its own, money managers and pension executives are monitoring the crisis closely. Widening unrest in the region could trigger higher oil and food prices, among other economic changes. Such changes could not only impact investments, but could also affect the decisions of developed country policymakers on issues such as quantitative easing and interest-rate hikes.
“Political risk really never went away,” said Craig Mercer, senior investment consultant and head of Towers Watson & Co.'s emerging wealth manager research team in London. “The degree of returns in the market may have created the illusion that it had gone away, which wasn't the case.”
Emerging markets investments jumped 56% in 2010 among the 200 largest U.S. defined benefit pension plans, according to Pensions & Investments' survey of the largest retirement plans, in part because investors' perception of risk has changed as developed countries recently have taken on massive debt while emerging countries boast terrific long-term growth potential.
“We've been relatively lucky in emerging markets to not have seen much political risk for quite some time,” said Charles Howlett, senior analyst at emerging markets equity long/short specialist Matterhorn Investment Management LLP, London. “This could lead to a re-evaluation of the risk premium.”
Brian Coulton, global emerging markets strategist at Legal & General Investment Management Ltd., London, said he “never really bought into that story” that risks of emerging markets had fallen in line with those of developed markets. “That narrative completely ignores the deep-seated political (instabilities) you don't see in developed economies,” he said. “This has been a reminder that these risks are still there. They haven't gone away.”
Protests in Egypt, Algeria and Tunisia are “small shocks,” Mr. Coulton said, but added that if they keep coming, developed country policymakers will not be able to ignore them.
Egyptian stocks make up less than 0.5% of emerging market benchmark indexes, and emerging markets investments constitute just 3.5% of total assets among the 200 largest U.S. pension funds. The direct impact of the Egyptian crisis likely won't be felt by global investors, experts say, but could serve as a contagion that could wreak havoc in other markets.