Authored by:

Robert Koenigsberger, Managing Partner & Chief Investment Officer
Mohamed El-Erian, Chair
Petar Atanasov, Director & Co-Head of Sovereign Research
Kathryn Exum, Director & Co-Head of Sovereign Research

March 30, 2023

Decoding the Global Macro Environment: A Top-down Perspective and the Related Implications for Emerging Markets Heading into 2Q 2023 

Top-Down Observations 

The adjustment to the end of the “age of easy money” was never going to be straightforward for markets and the global economy. It has been rendered more complex and uncertain by a mishandled policy hiking cycle, particularly by the Federal Reserve, that has exposed lapses in the management of certain financial institutions and in their supervision. As such, the risk of financial instability has added another layer of volatility and amplified the challenges facing central banks that are yet to decisively overcome the inflation threat.

The longer the world’s most powerful central bank delayed in reacting to price pressures, including mischaracterizing inflation as “transitory” for such a long time, the higher and faster the hiking cycle would need to be; and the greater the risk of market and economic accidents. So far, the financial accidents – including three bank failures in the U.S. and the shotgun wedding between Credit Suisse and UBS in Switzerland – have been contained when it comes to broad-based financial contagion. They are, however, expected to lead to some tightening of credit conditions, adding to the headwinds to global growth.

Additional financial instability and more worrisome growth fragility are not the only possible scenarios facing markets and the global economy. Indeed, we are living in an inherently fluid world that results in at least three plausible outcomes for each of growth, inflation and monetary policies in the U.S. and other advanced economies. And each of these scenarios involve inter-dependencies, including multiple equilibrium dynamics, that further complicate the outlook.

This is a world that, inevitably, is structurally uncertain for emerging economies. These economies are now exposed to external prospects ranging from soft landing (low inflation, adequate growth, and no major financial sector turmoil) to harder landings. Adding to the complexity is the different way in which different market segments have sought to reflect this range, varying from stiff-arming them to over-reacting.

Indeed, this uncertain world is one in which asset price overshoots and liquidity mishaps are more likely. It is a world that places a bigger premium on balance sheet resilience, good management, and operational agility – for both the private and public sectors. It is a world in which smart structuring, name selection and an openness to tactical positioning matter a great deal for the soundness and safety of investments.

Themes Influencing Investment Decisions in 2Q 2023 

Source: Gramercy. As of March 14, 2023. The information presented is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. There is no guarantee that any forecasts made will come to pass. There can be no assurance that investment objectives will be achieved. These risks are often heightened for investments in emerging/developing markets or smaller capital markets.

Recession Watch 

Global growth demonstrated resilience and moderate improvement in 1Q with PMIs moving back into expansionary territory both in EM and DM, led by looser monetary conditions as well as the economic reopening in China following the elimination of COVID-related restrictions. This coincided with a 20bps upgrade to the IMF’s 2023 global growth assumption to 2.9% as part of its World Economic Outlook update in January with the largest driver being stronger recovery assumptions in China. The EM-DM real GDP growth differential is expected to improve to 2.8% pts from 1.2% pts in 2023. While optimism around activity in China gained traction, commodity prices continued to drift south on the understanding that the upturn would likely be consumer oriented rather than investment driven. From a sector perspective, services witnessed the most significant upside albeit manufacturing and new orders also saw improvements.

Looking ahead for this quarter, we expect growth to face renewed headwinds from financial tightening stemming from central bank policy as well as a retrenchment in credit on the back of U.S. regional and global bank distress. Our base case still envisions a moderate U.S. recession that is not necessarily akin to typical recessions where activity contracts mildly and disinflation occurs, allowing for eventual stabilization and evolution of the policy adjustment. However, labor market destruction may not be as significant as in past contractions. While the probability of a more severe downturn has likely increased at the margin due to recent events in the global financial system, we think a more severe pull-back in credit would likely be balanced by a more moderate pace of policy tightening going forward as inflation continues to inch downward.

In China, activity has gained momentum in the first months of 2023 as we expected in our last report. The scope of improvement, as well as developments at the Two Sessions meetings where authorities set a modest growth target of 5.0%, indicate that the rebound is likely to be gradual and augmented with only targeted stimulus. With that being said, sell-side analysts have continued to revise up 2023 forecasts bringing the consensus estimate to 5.3%, in line with the IMF.

Exhibit 1: Subpar global growth outlook but improving EM-DM growth differential

Source: IMF, March 2023.

Continuing disinflation and DM financial stability woes should support “peak hawkishness” in EM

In our last Quarterly, we argued that absent any new material macroeconomic shocks, gradual disinflation from still elevated levels should continue, supported by tightening of global financial conditions, favorable base effects, the fading inflationary impact of the pandemic and the Ukraine war, and relaxation of “zero-COVID” policies by the Chinese government. The events around the failure of two regional banks in the U.S. and their potential repercussions have abruptly roiled global markets at the end of 1Q, raising questions as to whether they may rise to the level of a “new material shock” that could increase risks around financial market stability. In turn, investors would have to evaluate the likelihood that such scenarios could divert the U.S. Federal Reserve and other systemic central banks from their inflation-fighting agenda as global financial markets re-adjust to operating within a higher interest rate environment. In that context, we will be closely monitoring in 2Q for any signs that a potential deepening of banking and/or financial market stress could morph into broader macroeconomic volatility and recalibrate the global monetary policy outlook.

Entwined with the smooth functioning of financial markets, we expect the outlook for DM rates to remain the dominant driver of investor sentiment around EM assets in the second quarter. In the event U.S. policymakers are forced to rethink their policy trajectory due to concerns about financial market stability, a lower/slower than previously expected Fed tightening could lead to a weaker USD and support EMFX. At the same time, it could also create better conditions for EM central banks that were at or near the end of their rate hiking cycles to pause and potentially even start easing later in the year. Many EM central banks delivered credible policy responses throughout the high inflation environment of the post-pandemic/Ukraine War period and built-up nominal interest rate buffers that are significantly higher than recent historical reference levels. As such, policymakers across many investable EM jurisdictions appear well positioned to start unwinding the tightening they have delivered over the last couple of years, thus supporting economic activity. Provided that inflation continues to ease in 2Q, we expect an increasing number of EM central banks to start signaling a shift to a more dovish stance.

Exhibit 2: As inflation recedes, higher real interest rates have crystalized across EM, mainly in LatAm

Source: Bloomberg, national authorities, March 2023.

China Two Sessions meetings point to continuity for now

In line with our expectation, the Government’s work report delivered at the inaugural session of the National People’s Congress at the end of last quarter emphasized stability with a preference to rely on upside activity from economic reopening rather than excessive stimulus. A modest 2023 growth target of around 5%, down from the authorities’ missed 5.5% target last year, combined with the appointment of the widely anticipated new Primer Li Qiang and maintenance of key ministerial posts, including PBOC Governor Yi Gang and Minister of Finance Liu Kun, point to near-term policy continuity. Premier Li’s concluding address struck a pro-business tone emphasizing support for the private sector and fostering entrepreneurship, reducing near-term concern on surprise regulatory risks. We do not rule out personnel or policy changes later in the year as financial regulation reform is further developed and greater clarity emerges on the scope and durability of the domestic recovery and external outlook.

Under Premier Li, we expect SME-targeted credit support to remain in place and possible greater efforts at the margin to level the ground for private enterprises and SOEs. His desire and experience in attracting FDI, particularly in services, could partially offset the impact of recent supply chain “near and friend-shoring” trends.

On geopolitics, China’s growing international role, as reflected with its involvement in brokering a deal between Saudi Arabia and Iran, as well as positioning itself as a mediator for resolution to the Russia-Ukraine war, reflects Xi’s global diplomatic ambitions. In the near-term, we see significant room for deepening relations in the Middle East, whereas the approach with Russia will likely continue to be balanced against U.S. risks. We do not see China providing Russia with major direct lethal assistance albeit any incremental developments in support will likely draw increased pressure and action from the U.S. While President Xi and Foreign Minister Qin Gang made critical remarks of the U.S. during the Two Sessions, we do not necessarily see it as escalatory but rather affirming their position. On Taiwan, the visit of the President of Taiwan, Tsai Ing-wen, to the U.S. at the end of the quarter may trigger a mild and previously seen military response from the Chinese including drills and exercises to demonstrate force.

Update on Pivotal 2023 Elections: Argentina & Turkey

Argentina’s election is coming into focus as anticipated with the early announcement of center-right candidate Horacio Larreta, current Governor of the City of Buenos Aires. Polls continue to favor the opposition coalition, Juntos por el Cambio (PxC), while views of the ruling Frente de Todos (FdT) coalition face downward pressure amid accelerating inflation and stalling growth. FdT remains in search of tactical pivots and appropriate candidate selection in order to shore-up waning popularity. Meanwhile, growing calls for change in the midst of significant macroeconomic fragilities have increased support for the more radical Patricia Bullrich of the PxC and outsider Libertarian Javier Milei. We expect clarity on the remaining candidates to emerge throughout the second quarter ahead of the June 14 registration deadline. Gubernatorial elections are also set to begin in April providing some further insight into voter intentions. Our base case remains for an opposition victory in 4Q, igniting improvement in macroeconomic policy and asset prices, despite room for near-term volatility.

2Q23 has the potential to be a historic period for Turkey. On May 14, around 60 million eligible voters will go to the polls to elect a president (a second round will take place on May 28 if necessary) and members of the 600-seat National Assembly. President Erdogan, in power as Prime Minister or President since 2003, faces what is likely to be the toughest election test in his 20 years at the helm of Turkish politics. In the aftermath of tragic earthquakes in early February that devastated large swaths in the southwest of the country and killed tens of thousands, as well as economic policies by the Erdogan Administration that have grown increasingly distortionary in recent years, the probability assigned by markets to a “political change” scenario has been on the rise.

Following a series of dramatic intra-coalition squabbles and U-turns within the six-party anti-Erdogan opposition block during 1Q, the alliance appears to have gained momentum, but we think expectations that the Opposition is favored to win the presidency are overly optimistic. Both the Presidential and Parliamentary elections gravitate around being a coin toss, in our view, and will be decided by small details during the first half of the second quarter. The latest polls indicate that the Opposition Presidential Candidate and leader of the CHP party, Kemal Kilicdaroglu, can indeed defeat Erdogan, but this likely hinges on running an almost flawless campaign over the next two months. Against a backdrop of multiple, significant mistakes committed by the Opposition alliance, we are skeptical of the odds of smooth sailing by the Opposition until elections in mid-May. Also, we tend to think it is unlikely that a savvy political operator like Erdogan is willing to schedule elections one month early in May as opposed to hold them in June (the latest date allowed without a constitution change was June 18) unless he expects to be able to make up the lost approval ratings after the earthquakes and also capitalize on the Opposition’s potential mistakes.

There will be a period of around four weeks in May and June between the first and second round (if necessary) of Presidential elections on May 14 and May 28 and the two weeks between elections and the transfer of power that could be prone to extreme events (i.e., a security event) and financial volatility (i.e., abrupt sharp TRY depreciation). This could happen if the Opposition appears likely to win/has won the presidency and the outgoing Erdogan regime unravels and stops manipulating financial assets and the system as a whole. It could be a chaotic period in Turkish markets with extreme price action that could create a compelling investment opportunity ahead of transition of power to the opposition.

Potential re-escalation of fighting in Ukraine complicates the geopolitical risk backdrop

The war in Ukraine has been less of a focus for markets during 1Q as the harsh winter conditions limited fighting to a few locations in Eastern Ukraine. However, this is likely to change as warmer weather arrives. It appears that both sides are planning offensives that could re-calibrate market perceptions about geopolitical risks stemming from the conflict. In addition, steady military support for Kyiv by Western allies and the recent episode of a U.S. reconnaissance drone downed by Russian airplanes in the vicinity of the Crimean Peninsula could sharpen investor sensitivities about the risk of escalatory dynamics between NATO and Russia in and around Ukraine. Although we believe that the risk of direct confrontation remains very low, such incidents have the potential to create risk-off episodes in markets during the upcoming quarter.

Investment Strategy Review and Outlook

Multi-Asset Strategy

Given the strong rally at the end of 2022, we entered 1Q with high expectations for the medium-term but indicated that we would look to selectively take profits of 4Q tactical investments. This decision was driven by our highest conviction theme; expecting and wanting to embrace higher volatility levels with tactical and dynamic asset allocation. We entered 2023 almost fully deployed via our barbell. On one side, we were anchored with private credit/asset backed direct loans and high conviction performing emerging markets debt (“EMD”), both investment grade (“IG”) and high yield (“HY”). On the other side of the barbell, we were leaning-in on both opportunistic credit and special situations. However, as January came to an end, credit markets seemed stretched and as a result, we tactically raised cash by decreasing our weightings to both performing public and opportunistic credit. Moreover, we actively decided to keep inflows in cash rather than investing them straightaway. As the first quarter of 2023 came to an end, we used the volatility and dislocations caused by Silicon Valley Bank/Credit Suisse to tactically lean-in on certain credits from a bottom-up perspective and reduce cash balances. However, in order to pull the trigger from a top-down perspective, we need more clarity on the trilemma, i.e., inflation vs. growth vs. financial stability. Each outcome will require a different mix of return streams, in particular local vs. hard currency and credit quality, i.e., HY vs. IG. We would also like to see a bit more spread cushion. Nonetheless, we believe the strategy is well positioned to capture the upside we expect to see in the next 12-24 months while still providing downside protection on this likely bumpy journey to recovery.

Emerging Markets Debt

The first few months of 2023 have been everything everywhere all at once for markets, including EM. Positive performance in January, driven by market optimism that the Fed might be getting closer to “peak hawkishness” and a consolidation of the China re-opening narrative gave way in February to a more somber market sentiment as positive economic data and higher than expected inflation prints renewed concerns over the need for systemic central banks to take developed market rates higher for longer. Then came March and the failure of Silicon Valley Bank in the U.S. which spurred concerns about other weak financial institutions, including Credit Suisse, heightening worries over global financial stability, akin to that of 2008. These series of events YTD have led to historic volatility in the U.S. Treasury market with the 2-year widening 64bps from the beginning of the year through the first week of March and then tightening almost 150bps to 3.6% as of March 17, 2023.

In the midst of this volatile macro backdrop, EM Index performance YTD has been relatively resilient with local currency sovereigns (+3.5%) and EM corporates (+1.9%) outperforming hard currency sovereigns (+1.4%). High yield performance has been mixed with EM corporate HY underperforming EM corporate IG (+1.5% vs. 2.1%, respectively) while EM sovereign HY underperformed EM sovereign IG quite significantly (-0.2% vs. +3.0%, respectively).

Exhibit 3: Global Market Index Returns

Source: Bloomberg, JPMorgan as of March 24, 2023.

We expect volatility to be a continued theme in the short-term as the market (and the Fed) remains largely data dependent and macro uncertainty abounds in the U.S. in the wake of the regional bank situation and its potential implications on the economy. In such an uncertain external environment, active management is critical to managing the risks posed to portfolios and to harness the opportunities that may arise from any dislocations. During times such as these, we are particularly focused on generating alpha through our rigorous bottom-up investment process.

    • We believe technicals will remain sound for the time being as market volatility has all but halted primary issuance and cash balances have been able to absorb outflows month to date. Net YTD inflows of only $1.4bn in hard currency EM debt, after historic outflows of $42.6bn in 2022, should put a floor on potential outflows for 2023.
    • From a fundamental perspective, while EM corporates have had some balance sheet deterioration over the last several quarters, overall balance sheet health remains at 10-year highs. This, coupled with a history of operating in volatile macroeconomic backdrops, should allow EM corporates to remain resilient in the face of the current market backdrop. The EM financials space within the JPM CEMBI Broad Diversified Index is largely composed of well-capitalized, systemically important national champions with sticky deposit bases and low leverage. These banks are likely to benefit from a flight to quality in terms of deposits.
    • The coming quarter will be important in setting global risk sentiment for the remainder of the year. The market will be paying very close attention to all macro data and Fed speak that is released going into the next Fed meeting, which will be critical in setting a path forward for not only the U.S. economy but also for global risk markets.
    • Given this confluence of factors, we remain highly tactical and agile in the way we are managing our portfolios and will focus on bottom-up credit selection as a means of generating alpha for clients.

Opportunistic Credit

Throughout the first quarter of 2023, we have continued to see how the normalization of interest rate policy coupled with commodity shocks have reset asset prices and financial flows. Our focus has been primarily on sovereign opportunistic credit, as limited fiscal and monetary space coupled with weak post-COVID balance sheets has led to a new cycle of EM sovereign debt defaults. We have spoken extensively about this being the 11th major dislocation since the beginning of the asset class. The average dislocation in sovereign EM credit had a drawdown of 20% over four months with a typical recovery period of seven months with 50% post-through 24-month forward returns. Among liquid opportunistic credit, by far the greatest opportunity set is in stressed/distressed sovereign and quasi-sovereign curves. We have entered several new distressed sovereign names and are actively monitoring several other historically attractive opportunities.

The public EM corporate distressed universe has been largely limited to a few stories over the last couple of quarters: Russia/Ukraine, China Property and Mexican NBFIs. However, over 2Q23 a few new opportunities could present interesting entry points. We have been actively monitoring several names in Latin America, particularly in Brazil and the Andean region. We are actively looking for high conviction opportunities where we believe we have a competitive advantage in catalyzing successful restructuring outcomes and potentially providing new capital to reposition sound companies for growth. Additionally, with historically lower prices for risk assets, we are looking to invest in high quality names that are not suffering from any solvency concerns but rather a general misunderstanding of their cash flow generation potential (i.e., certain independent commodity producers) or their post-restructuring liquidity runway (i.e., certain airlines).

Finally, we continue to invest across the illiquid opportunistic credit space and have been particularly focused on sovereign ‘plus’ platform opportunities like those we already have in Colombia, Mexico and Angola. Here, we are looking for sovereign/quasi-sovereign credit risk, but in structures that deliver excess alpha by giving up a modest liquidity concession. Despite the repricing in liquid yields, certain illiquid cash-flow securitizations or asset-backed structures offer multiple-percentage-point pick-ups to liquid corporate opportunities. We continue to look for sound illiquid opportunistic credit investments in EM.

As markets continue to digest the effects of ending the age of easy money, we expect to continue to see attractive entry points in opportunistic credit across the public/private corporate/sovereign space. As mentioned above, we are most excited by sovereign/quasi-sovereign names and see a historic opportunity to build a geographically diversified portfolio of distressed/stressed/dislocated sovereign names.

Capital Solutions

The first quarter of 2023 showed continued periods of volatility in public markets due to interest rate and inflation uncertainty. However, unlike the second half of 2022, market volatility coexisted with primary issuance in the public corporate and sovereign markets. The impact on the private debt space, nevertheless, was limited. Corporate new issuance remains limited to the large corporate and frequent issuers, mostly investment grade. The small and medium-sized corporates that we target across Latin America and CEEMEA remain excluded from such sources of financing. Furthermore, the lack of access to the international market has been exacerbated in some cases by idiosyncratic turmoil existing in the domestic markets. Such is the case of Chile, Colombia and Peru. These domestic markets have seen a retrenchment of the local pension funds and insurance companies as they naturally refocus their exposure towards the larger, investment grade type corporates or simply resort to government securities. Our capital still is one of the few alternative sources for these mid-size corporates to finance their medium and long-term CAPEX and business plan expansions. These competitive dynamics continue to allow us to structure our loans in a way that allows us to earn equity like returns with robust downside protection.

We believe our portfolio delivers strong performance even during these volatile times. We structure our transactions without resorting to covenant-light terms. Additionally, we enhance our structured loans by lowering LTVs, getting additional collateral and increasing the asset-backed component of our portfolio. Unlike long duration fixed rate assets, our portfolio offers an ideal structure to protect our returns during these days of great interest rate and inflation uncertainty. Approximately 92% of our portfolio is composed of senior secured direct lending and asset backed instruments, and these two asset classes represent the bulk of our pipeline as well. Furthermore, we continue to add floating rate while capturing back ended warrants or kickers. Hence, we feel that we are very well positioned for the current environment.

During the first quarter of 2023, we deployed four additional loans amounting to $37 million. We have $75 million among five transactions in the process of being funded and approximately $800 million currently between deals in advanced discussions and those in early-stage conversations. Furthermore, our pipeline is well diversified, including transactions in the financial services, agribusiness, power generation, industrials, and real estate industries.

Special Situations

Litigation finance continues to be a core area of focus for the Special Situations Group. This asset class is proving to be uncorrelated to the global financial markets and our litigation finance portfolio is performing as expected. Our current investment pipeline is robust and consists of attractive opportunities including investor-state arbitration claims and awards, commercial arbitration claims, secondary opportunities and diversified mass claim law firm portfolios. In particular, we are analyzing mass claim portfolio funding opportunities with an emerging markets nexus and ESG and impact characteristics. We continue to assess insurance products in connection with these opportunities to mitigate drawdown risk.


No one ever said removing the punch bowl would come without challenges. Aggressively raising interest rates and withdrawing liquidity from the system (QT) made fender benders / financial accidents even more likely. One externality has been volatility, which if embraced properly is not necessarily a bad thing.

Going forward, we must navigate the trilemma between growth, inflation and financial stability. We will continue to do so by relying upon top-down analysis, high conviction security selection, dynamic asset allocation and tactical positioning. As always, we will look to exploit the volatility in the marketplace by planning the trade and trading the plan.

About Gramercy

Gramercy is a dedicated emerging markets investment manager based in Greenwich, Connecticut with offices in London, Buenos Aires, Miami, West Palm Beach and Mexico City, and dedicated lending platforms in Mexico, Turkey, Peru, Pan-Africa, Brazil, and Colombia. The $5 billion firm, founded in 1998, seeks to provide investors with attractive risk-adjusted returns through a comprehensive approach to emerging markets supported by a transparent and robust institutional platform. Gramercy offers alternative and long-only strategies across emerging markets asset classes including multi-asset, private credit, public credit, and special situations. Gramercy’s mission is to positively impact the well-being of our clients, portfolio investments and team members. Gramercy is a Registered Investment Adviser with the SEC and a Signatory of the Principles for Responsible Investment (PRI), a Signatory to the Net Zero Asset Managers initiative and a Supporter of TCFD. Gramercy Ltd, an affiliate, is registered with the FCA.

Contact Information:

Gramercy Funds Management LLC
20 Dayton Ave
Greenwich, CT 06830
Phone: +1 203 552 1900

Joe Griffin
Managing Director, Business Development
+1 203 552 1927
[email protected]

Investor Relations
[email protected]

This document is for informational purposes only, is not intended for public use or distribution and is for the sole use of the recipient. It is not intended as an offer or solicitation for the purchase or sale of any financial instruments or any investment interest in any fund or as an official confirmation of any transaction. The information contained herein, including all market prices, data and other information, are not warranted as to completeness or accuracy and are subject to change without notice at the sole and absolute discretion of Gramercy. This material is not intended to provide and should not be relied upon for accounting, tax, legal advice or investment recommendations. Certain statements made in this presentation are forward-looking and are subject to risks and uncertainties. The forward-looking statements made are based on our beliefs, assumptions and expectations of future performance, taking into account information currently available to us. Actual results could differ materially from the forward-looking statements made in this presentation. When we use the words “believe,” “expect,” “anticipate,” “plan,” “will,” “intend” or other similar expressions, we are identifying forward-looking statements. These statements are based on information available to Gramercy as of the date hereof; and Gramercy’s actual results or actions could differ materially from those stated or implied, due to risks and uncertainties associated with its business. Past performance is not necessarily indicative of future results. This presentation is strictly confidential and may not be reproduced or redistributed, in whole or in part, in any form or by any means. © 2023 Gramercy Funds Management LLC.  All rights reserved.