Emerging Markets Forum: Investors fear 'political risk'

Emerging markets' political stability remains investors' biggest concern, according to delegates polled at PEI's annual emerging markets conference in New York.

Private equity professionals were most concerned about “political risk” when investing in the emerging markets, according to an informal poll conducted at Private Equity International’s Emerging Markets Investor Forum in New York this week.

The respondents – a mix of general partners and limited partners – were asked to rank investor concerns about emerging markets. The majority said political risk was their top concern, followed by manager risk, then macro-economic risk and finally, company-specific risk.

The findings come as major political upheavals in the Middle East this year have led to regime changes in countries like Egypt, Tunisia and armed conflict in Libya. The impact on private equity in the region is not clear, though specifically markets in Egypt, where several firms like Citadel Capital are based, have been rocked by the power shifts. Moody's Investors Service on Wednesday downgraded its rating on Egypt's sovereign debt deeper into junk status based on the country's uncertain political future.

China, where an election in 2012 could bring in leaders with different ideas about private equity, is another example of political risk, said James Canales, chief operating officer of StoneWater Capital, a fund of funds that spun out of Warburg Pincus in 2004.

You have managers who are just getting their feet wet raising sums that are too big.

Mike McCabe

However, not everyone agreed that political risk should be the foremost concern on the minds of investors. Private equity funds rarely fail because of political catastrophe, according to Kevin Albert, managing director with fund of funds Pantheon.
Of more concern should be changes in the macro-economy that affect currency exchange rates, he said. Exchange rate fluctuations can render a once-attractive fund into something that simply “churns dollars”, Albert said.

The risk of a bubble environment should also weigh more heavily on investors' minds, some speakers argued. The flood of capital into certain emerging markets like China or Brazil was elevating the risk of GPs paying too much for assets, said Mike McCabe, partner with private equity advisor StepStone Group.

“You have managers who are just getting their feet wet raising sums that are too big,” McCabe said. “Asset pricings because of these large flows are lofty.”

The various emerging market risks have been deemed warranted given the potential return opportunities, but given the attention that has been showered on these regions in recent years, some speakers and delegates felt investors must look beyond the “established” emerging markets like Brazil, China and India to find outsized returns.

Africa, according to Hurley Doddy, co-founder and chief executive officer of Emerging Capital Partners, holds a lot of opportunities for investors with a long-term outlook.