The Two-Speed World

Global financial crisis exacerbated the developed world debt problems and widened the gap with emerging economies
New economic superpowers are forcing a rebalancing of the global economy
Some emerging economies are undergoing a structural rebalancing towards domestic demand, establishing themselves as end markets

Where do we stand now?

Debt: Markets may force governments in the developed world to take drastic measures, and defaults will not be seen as a once-in-a-lifetime tail risk going forward
Deficit: The huge inflows of money into developed economies meant that governments could run large deficits but such times are drawing to a close
Demographics: The declining population in developed world puts a natural brake on debt financing. Emerging countries, however, are benefitting from large and growing population

Negative real interest rates in developed economies reduces the debt burden for these governments
Perversely, this means that these governments are being paid by investors to hold their debt
This situation is unusual and will not last

While the developed world battles with the 3Ds, the emerging world is well-placed to benefit from:

Increasing access to credit, particularly in Latin America, could positively impact the economy
Increasing consumption (supported by a young population base) which should help domestic and international companies
Commodities has played a huge role in the resurgence of emerging economies in recent years

Asian countries rely less on exports to developed countries than over the recent decades
However, Asian countries need to successfully grow the domestic economy to move on to the next stage

While there has been a shift in the risk landscape, there has been little adjustment in terms of asset allocation

Fidelity advocates:

1.	Increase weighting to Asian and emerging market equities and be selective with developed market equities
2.	Increase weighting to emerging market debt
3.	Increase weighting to developed market corporate debt

While government debt is still largely considered 'risk-free', we believe that countries with high growth rates will inevitably improve their balance of payments positions and creditworthiness
Most investors would currently consider a default in a developed country more of a risk than in an emerging one
This shift in risk sentiment is reflected in the Credit Default Swaps (CDS), with CDS of some developed countries higher than their emerging market counterparts