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. Last Updated: 07/27/2016

Emerging Markets Elicit More Caution

LONDON -- More than a year after Mexico's shock devaluation put a hole in portfolio profits, emerging market investors still have an appetite for risk, but some are wising up to the dangers, fund managers said.

Chinese war games off Taiwan, U.S. sanctions against Cuba and political uncertainty in Turkey have not deterred the more intrepid investor, though some fund managers report signs of greater caution, most recently over South Africa and Israel because of the perceived political risk.

"Investors certainly are more conscious about currencies in emerging markets and I think some are beginning to shift from bottom-up to top-down," said Francis Seymour, who manages Guinness Flight's $30 million global emerging markets fund, referring to growing investor interest in the wider economic picture rather than focusing on individual stocks.

Austin Forey, a director at Flemings Investment Management, which manages some $11 billion in global emerging markets, said investors were taking greater note of currency stability and current account deficits, and whether those deficits were financed with short-term money.

But he added that more opportunities tended to emerge in areas considered risky, and that his firm had stepped up investment in Turkey and Eastern Europe in preference to safer bets like South Africa, Malaysia and Korea.

"It all comes down to share prices -- how far can we live with an economic situation that looks horrid if share prices are low?" he added.

Credit rating agency Duff and Phelps said this week that fixed income investors were demanding structures to limit their exposure to the storms buffeting sovereign assets.

"Potential investors in [emerging market] issues are wary of potential sovereign instability," it said.

"As a result, new financing techniques that protect investors from sovereign risk surged in 1995," it said, adding that those techniques were likely to remain popular this year.

For example, a company's future cash flow can be securitized, meaning a borrower raises cash and ring-fences future earnings to guarantee payments. This reduces the risk of companies defaulting and the transaction can get a higher credit rating -- sometimes higher than that of sovereign debt issued by the base country.

But Forey did not believe investors had totally changed their spots. "Currency is something people are looking at more, but I'm cynical enough to believe that these things go in cycles," he said.

And Douglas Polunin, senior investment manager at Pictet Asset Management, which manages more than $1.3 billion in emerging markets from London alone, said he felt investors were still opting mainly for the credit story of particular firms.

"People are looking for funds that take a bottom-up approach rather than the macro or technical view," he said.

"They are looking at macro-economic indicators more closely," he added.

"There has been a bit of a shift," .

-- the lethal concoction that exploded in Mexico in December 1994

However as economic growth resumes in some of the largest emerging market countries, investor demand for these structures was likely to wane, it said.

-- especially in Mexico, Argentina and Turkey