IFSL RESEARCH MAY 2010 In partnership with: EXTERNAL FINANCE FOR EMERGING MARKETS 2010 WWW.IFSL.ORG.UK OVERVIEW The ability of developing countries to access external finance has a crucial role in their economic development Private inflows of external finance to emerging economies nearly halved to an estimated $372bn in 2009 from $720bn in 2008 and only a quarter of the peak of $1,524bn in 2007 (Chart 1) In 2009, FDI remained the largest component with net investment of $430bn, but this represented a fall from $728bn in 2008 FDI is likely to recover in coming years as opportunities arise from sustained economic growth in many emerging markets There was a net $57bn outflow of international bank lending in 2009 as repayments of loans exceeded new lending This compared with a modest net $72bn inflow of lending in 2008 The downturn in bank finance is a reflection of credit constraints and the withdrawal of many banks from all foreign markets, not only developing countries and emerging markets Much of the withdrawal of bank lending to emerging economies occurred in Q4 2008 and Q1 2009 when there was a cumulative net reduction of lending of some $300bn Net inflow of lending began to recover in Q4 2009 In 2008 there was net disinvestment of $80bn by foreign portfolio investors, notably in Russia, Malaysia and India, although other countries, such as China, Mexico and Chile saw a continuing inflow, albeit at a lower level than previous years The year 2008 followed several years of growing portfolio investment Reviving equity markets and with improving economic prospects is likely to have lifted portfolio investment in emerging markets to $50bn in 2009 Detailed breakdown for 2008 shows that the BRIC countries (Brazil, Russia, India & China) along with Hungary attracted the strongest overall flow of external private finance into emerging economies China was the largest market with $124bn, followed by Hungary $68bn, Brazil $42bn, Russia $41bn and India $36bn (Table 1) Much of this was underpinned by inflow of FDI, with a net outflow in many countries of international bank lending and portfolio investment The US is the largest portfolio investor in emerging markets with 31% of such investment worldwide, followed by the UK 11% and Luxembourg 9% UK banks account for 16% of foreign claims on emerging markets, more than from any other country Chart Inflows of external finance to emerging markets $bn, combined inflow of FDI, portfolio investment & bank lending to emerging markets 1500 International bank lending 1300 Portfolio investment Foreign direct investment 1100 Total inflow 900 700 500 300 100 -100 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009* *IFSL estimate for portfolio investment, UNCTAD estimate for FDI Source: BIS, IMF Table Emerging economies receiving largest inflows of external finance $bn, 2008 China Hungary Brazil Russia India Mexico Romania S.Arabia Poland Chile Turkey Kazakhstan Thailand Czech Republic Argentina Malaysia Other countries Total Int bank Portfolio inv FDI lending 10 148 -34 49 18 -1 45 -3 -27 73 -6 -15 41 23 13 17 23 -4 17 14 17 -4 18 15 11 10 -5 11 -8 -5 -21 -12 -41 210 46 -80 728 72 Total flow 124 68 42 41 36 35 34 32 26 25 23 20 16 14 -4 -26 213 720 Source: IMF, BIS External finance for emerging markets: coverage and definitions This IFSL report sets out the extent of their external financing from commercial sources, including foreign direct investment (FDI), portfolio investment, listings on foreign stock exchanges and bank lending (official flows are not included) Figures in this year’s report exclude five countries - Hong Kong, Israel, Singapore, South Korea and Taiwan previously identified as developing countries which have been reclassified by the IMF as advanced economies Adjustments for this revision have been made to IMF time series as well to BIS statistics In conventional balance of payments methodology, an equity holding in an enterprise of up to 10% is considered as portfolio investment and in excess of 10% as direct investment IFSL SOURCES OF EXTERNAL FINANCE This section includes analysis of the main types of external finance and the extent to which they have been accessed by countries in the various regions As well as covering foreign direct investment, portfolio investment and bank lending, it also features emerging markets’ access to global equity markets through listings on foreign stock exchanges, especially in London and New York Foreign direct investment FDI is linked to cross-border mergers and acquisitions, which are in turn heavily influenced by movements in equity markets IMF figures indicate that FDI in emerging markets rose by 6% to $728bn in 2008, while provisional estimates from UNCTAD point to an estimated 35% decline to $430bn in 2009 (Chart 2) As indicated in the overview, FDI is likely to recover in coming years as opportunities arise from sustained economic growth in many emerging markets Emerging markets’ share of world FDI was around 40% in 2008 and 2009 up from around 28% between 2005 and 2007 FDI flows to Asia, at $241bn in 2008, matched those to central and eastern Europe (CEE) (Chart 3) Russia, Hungary, Turkey and Poland made up nearly two thirds of the CEE total FDI in Asia is dominated by China where inflows of $148bn accounted for 61% of the Asian total in 2008 China has been the biggest single destination for FDI not just in Asia, but in all emerging markets since 2001 India has seen a jump in FDI in recent years: $41bn in 2008 and over $20bn in 2006 and 2007, previously not having exceeded $8bn Kazakhstan was the next largest market in Asia FDI in Latin America was up to $127bn, over half of which was directed to Brazil and Mexico FDI in Middle East and Africa is much less at $78bn and $41bn respectively Portfolio investment Flow of portfolio investment Emerging economies experienced a net $80bn outflow or disinvestment by foreign investors in 2008 Recovering equity markets and economic prospects should have returned portfolio investment to an estimated net $50bn inflow in 2009, lower than inflows of $170bn in 2006 and $225bn in 2007 (Chart 1) A few countries recorded a net inflow from foreign investors in 2008: China attracted the largest inflow at $10bn, followed by Mexico and Chile Significant disinvestment was experienced by Russia and Malaysia, both over $20bn, and India $15bn Against disinvestment of $80bn from emerging economies, global portfolio investment into all countries was $1,342bn, down nearly two thirds on 2007 investment of $3,614bn Portfolio investment into emerging markets as a share of all such investment had risen from 1% in 2002 to 6% in 2007 but fell back to -6% in 2008 (Chart 2) Portfolio investment holdings The IMF’s annual Coordinated Portfolio Investment Survey (CPIS) has been undertaken annually since 2001, with 74 countries participating in the recent surveys The latest survey shows that non-resident holdings of portfolio investment in the 20 largest emerging External Finance for Emerging Markets 2010 Chart Share of external finance flowing to emerging markets $bn, global market flows of investment & finance Bars: Flows to all countries Line: Flows to emerging markets 6000 5000 4000 3000 2000 1000 -1000 -2000 2007 2008 20091 FDI 2007 2008 2009 Int.bank lending 1UNCTAD estimate for 2009 2IFSL estimate for 2009 for emerging markets only 2007 2008 20092 Portfolio inv Source: BIS, IMF Chart Foreign direct investment flows into emerging markets $bn, net investment each year Europe 240 Asia 210 180 150 120 Latin America 90 M.East 60 30 Africa 1998 2000 2002 2004 2006 2008 Source: IMF Balance of Payments Statistics Yearbook Chart Portfolio investment: non-resident holdings in emerging markets $bn, amounts outstanding, end-year1 450 400 2005 2007 2008 350 300 250 200 150 100 50 China India Brazil Mexico Russia Turkey South Africa Poland 1Derived from creditor countries' data Source: IMF Coordinated Portfolio Investment survey IFSL External Finance for Emerging Markets 2010 markets more than halved to $1,022bn from $2,440bn at end-2007 The value of non-resident portfolio holdings in China remained higher than in any other emerging market at end-2008 but at $225bn fell by nearly a half from $407bn in 2007 (Chart 4) With holdings in Brazil and India being the next largest, BRIC countries dominate the standings with only Mexico as the fourth largest destination ahead of Russia Since the onset of the financial crisis the spread on the emerging market bond index (EMBI) has been volatile initially rising steeply from 308 basis points (bp) in mid-2008 to 724 bp at the end of the year, before declining steadily to 294bp at end-2009 (Chart 5) Main sources of portfolio investment The biggest source of portfolio investment in emerging markets originates from investors located in the US, the UK and Luxembourg, which hold 30%, 11% and 9% of such assets respectively The value of US investors’ assets in 20 major emerging markets totalled $411bn at end-2008, while the value of investments in the UK was $145bn (Table 2) Luxembourg is next largest with $123bn, followed by Hong Kong and Singapore Brazil and Mexico are the most important countries for US investors reflecting close US ties with Latin America, although the US is also the biggest portfolio investor in Russia and India Hong Kong is the largest investor in China, which makes up about 90% of Hong Kong’s investments Investments from Luxembourg and the UK are more evenly spread around the world, although the UK is only just behind the US as investor in India Germany is the largest investor in Poland, Hungary and the Czech Republic, reflecting its strong links with CEE Listings on foreign stock exchanges Larger companies can more easily access capital markets through joining larger international exchanges in addition to their domestic exchange The New York Stock Exchange (NYSE) and the London Stock Exchange (LSE) are the exchanges where most such listings from emerging markets are made with 182 on the NYSE and 144 on LSE (Table 3) Latin American countries tend to list in New York, while African and central European countries are more likely to list in London Listings by Asian companies are divided between the two Separate LSE figures for the Alternative Investment Market (AIM) show that 250 AIMlisted companies cite their main country of operation as being in an emerging market including 48 citing China International bank lending Flows of cross-border lending to individual emerging markets tend to show much greater volatility from year to year than flows of FDI or portfolio investment Lending to emerging markets peaked at $612bn in 2007, before plummeting to $72bn in 2008 and recording a net $57bn outflow in 2009 The flow of bank lending to emerging markets rose to $271bn in the first half of 2008 before stalling in Q3 and then going into reverse with a net $312bn withdrawal of bank finance in Q4 2008 and Q1 2009 The net outflow was stemmed with a net $52bn inflow of lending in the fourth quarter of 2009 Between Q3 2008 and Q4 2009 Russia experienced a 32% drop in crossborder bank finance outstanding (Chart 6) Lending to China was also down 15% over this period, but lending flows had begun to recover in Q4 2009, Chart Emerging market spreads & US bond yield Emerging Market Bond Index (EMBI) spread & US 10 year Treasury yield, % US Treasury yield, % EMBI spread, basis points 1000 800 US Treasury yield 600 400 200 EMBI spread 2000 2002 2004 2006 2008 2010 Source: IMF Global Financial Stability Report, Federal Reserve Table Sources of portfolio investment in emerging markets Portfolio investment holdings, major investing countries,end-2008 of which: invested % share of % share of Portfolio in major port inv in investing investment emerging major country's assets markets emerging portfolio $bn $bn markets investmt US 4268 9.6 411 30.4 UK 2569 5.6 145 10.7 Luxembourg 2120 5.8 123 9.1 Hong Kong 555 21.0 117 8.6 Singapore 307 16.0 49 3.6 Germany 2149 2.3 49 3.6 Japan 2377 1.9 44 3.3 Netherlands 1140 2.9 34 2.5 France 2529 1.1 27 2.0 Italy 957 1.2 12 0.9 Switzerland 882 1.1 10 0.7 Others 11020 333 24.6 World total 30873 1354 100.0 Source: IMF Coordinated Portfolio Investment survey Chart International bank lending to emerging markets $bn, amounts outstanding, external position of BIS-reporting banks to developing countries 225 200 175 Dec 2005 Sep 2008 Dec 2009 150 125 100 75 50 25 China Brazil Russia India Turkey Poland UAE Source: BIS Quarterly Review of Banking & Financial Market Developments IFSL External Finance for Emerging Markets 2010 unlike Russia where a net outflow persisted Sources of foreign claims on emerging markets Consolidated BIS data for banks in 30 reporting countries show that foreign claims outstanding on emerging markets in September 2009 totalled $3,949bn on an ultimate risk basis These figures include local claims of foreign affiliates which are not included in the data for international bank lending The UK banking sector was the biggest lender to emerging markets worldwide with foreign claims totalling $622bn at end-September 2009, representing 16% of all such lending globally (Chart 7) The UK was followed by the US with 14%, Germany 10% and France 9% Other exposures to BIS-reporting banks BIS also collects statistics on other exposures of banks in 24 reporting countries on a consolidated ultimate risk basis rather than the unconsolidated basis used for the lending data Although not directly comparable to the data on loans outstanding, they help to fill out the picture on external finance Total of other reported exposures to emerging markets was $1,362bn in September 2009 The two major components are guarantees extended $665bn and credit commitments $546bn, with derivatives contracts of $152bn making up the remainder SOURCES Bank for International Settlements Quarterly Review of Banking & Financial Market Developments www.bis.org International Monetary Fund Balance of Payments Stats.Yearbook Coordinated Portfolio Investment Survey (CPIS) Global Financial Stability Report www.imf.org London Stock Exchange www.londonstockexchange.com New York Stock Exchange www.nyse.com UNCTAD www.unctad.org Chart Source of foreign claims on emerging markets Foreign claims on emerging markets*, % share, September 2009 Other countries UK 19% Japan 5% Italy 5% Netherlands 16% 14% 5% 11% 6% Austria US 9% Germany 10% France Spain Total foreign claims: $3,949bn *Consolidated foreign claims of BIS reporting banks on individual countries, ultimate risk basis (includes local claims of foreign affiliates) Source: BIS Quarterly Review of Banking & Financial Market Developments IFSL Research: Report author: Duncan McKenzie Director of Economics, Duncan McKenzie d.mckenzie@ifsl.org.uk +44 (0)20 7213 9124 Senior Economist: Marko Maslakovic m.maslakovic@ifsl.org.uk +44 (0)20 7213 9123 International Financial Services London 29-30 Cornhill, London, EC3V 3NF All IFSL’s reports can be downloaded at: www.ifsl.org.uk © Copyright May 2010, IFSL Data files International Financial Services, London is a private sector organisation, with nearly 40 years experience of promoting the UK-based financial services industry throughout the world City of London Corporation administers and promotes the world’s leading international finance and business centre and provides free inward investment services Datafiles in excel format for all charts and tables published in this report can be downloaded from the Reports section of IFSL’s website www.ifsl.org.uk Sign up for new reports If you would like to receive immediate notification by email of new IFSL reports on the day of release please send your email address to download@ifsl.org.uk This brief is based upon material in IFSL’s possession or supplied to us, which we believe to be reliable Whilst every effort has been made to ensure its accuracy, we cannot offer any guarantee that factual errors may not have occurred Neither International Financial Services London nor any officer or employee thereof accepts any liability or responsibility for any direct or indirect damage, consequential or other loss suffered by reason of inaccuracy or incorrectness This publication is provided to you for information purposes and is not intended as an offer or solicitation for the purchase or sale of any financial instrument, or as the provision of financial advice Copyright protection exists in this publication and it may not be reproduced or published in another format by any person, for any purpose Please cite source when quoting All rights are reserved  ... investment in the 20 largest emerging External Finance for Emerging Markets 2010 Chart Share of external finance flowing to emerging markets $bn, global market flows of investment & finance Bars: Flows... Developments IFSL External Finance for Emerging Markets 2010 unlike Russia where a net outflow persisted Sources of foreign claims on emerging markets Consolidated BIS data for banks in 30 reporting... creditor countries' data Source: IMF Coordinated Portfolio Investment survey IFSL External Finance for Emerging Markets 2010 markets more than halved to $1,022bn from $2,440bn at end-2007 The value of