Fitch Ratings says emerging markets (EMs) are facing a wide range of risks across many sectors in 2016 and sovereign, corporate and bank ratings will continue to be under pressure. The share of EM ratings on Negative Outlook in these core sectors are all at their highest since 2009.

EM sovereigns are being challenged by higher US interest rates, a stronger US dollar, weak  commodity prices,  sluggish global trade and heightened political risks. In December, Fitch downgraded both Brazil and South Africa's sovereign ratings, adding to the list of negative rating actions for large EMs, following the downgrade of Russia in January 2015.  This contrasts with the trend in the last decade of stable-to-improving ratings for large EM sovereigns. Rating prospects are nearly the mirror image of those in developed markets, with a Negative/Positive Rating Outlook ratio of about 2:1.

The macroeconomic headwinds are also affecting the outlook for corporates and banks in EMs. In addition, FX volatility is a threat for many leveraged companies, especially those with foreign currency debt to refinance. Banks are facing weakening asset quality and are vulnerable to a diminishing of sovereign support.

Private sector debt has risen rapidly in key EMs in the last decade, surpassing government debt levels and potentially exposing their economies, financial systems and sovereign credit-worthiness to downside risks. Fitch's analysis of seven large EM countries (Brazil, India, Indonesia, Mexico, Russia, South Africa and Turkey) shows that wide private sector debt rose to an estimated 77% of GDP at end-2014, up from 46% in 2005. Private debt is highest in Brazil at 93% of GDP, having risen by 50pp in a decade. The challenges facing Brazil overall partly reflect this rapid rise and the level of private sector debt and highlight downside risks to other countries.

Capital market debt funding has been rising in EMs but from a low level. The bulk of EM corporate debt is still sourced from domestic banks, which face the risk of increased non-performing loans and weaker profitability.

Fitch estimates that 24% of private sector debt (for the seven large countries) is raised externally through bonds and loans. Foreign financing is less stable and often involves currency risk, amplifying vulnerabilities. Capital flows to EMs reduced sharply during 2015, especially from mutual funds.

In Fitch's latest investor surveys in Europe and the US, investors have expressed strong aversion to EM debt based on concerns over deteriorating fundamental credit conditions. They also said the EM problems posed the greatest threat to credit markets in Europe and the US respectively.

The downward pressure on EM ratings is evident in the high and rising share of ratings on Negative Outlook, at 16% for sovereigns and 23% for both corporates and financial institutions. EM debt defaults follow a rising trend, with 16 in 2015, the highest since 2009 when 18 defaults were recorded.