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Documents sponsoredCurrent Strategy | August 2019
We see a range trading environment for EM, supported by Fed monetary easing and likely easing by other major developed and EM central banks. This should offset President Trump’s latest threat to impose new tariffs on China to push trade negotiations forward.
We have a neutral strategic bias on spread duration as valuations across sovereign and corporate hard currency are fair. We are open to adding to spread duration on setbacks, particularly in the HY part of the credit market. We also have a neutral strategic bias on interest duration, albeit looking for tactical short duration opportunities given the amount of protracted Fed rate cuts already priced in and some tentative signs of growth stabilising in the US.
We have a neutral bias on EM FX as currencies. A weaker global growth environment and generalised rate cuts will make it hard for now to have generalized dollar weakness/EM FX appreciation. But we are comfortable in being long selected pockets of FX carry especially where we have high confidence in low spot FX volatility. Nigerian Naira and Uruguayan peso continue to fit this description.
Our views for the coming months
After a strong start of the year, with EM sovereign bonds up 7.6%, EM corporate bonds up 6.8% and EM local bonds up 3.0% in USD terms, we expect carry to be the primary driver of returns in the coming months, amidst drawn-out trade negotiations between US and China. The US Federal Reserve’s dovish comments, combined with a similar stance across many EM central banks, should support EM bonds despite a more uncertain global macro climate.
We have a neutral strategic bias on spread duration given lower growth forecasts for EM and more muted inflows into the asset class, after the large flows seen earlier in the year. We remain, however, open to tactical long opportunities given the recent value created in spreads (HY particularly). We also have a neutral strategic bias on interest duration following the recent rally.
We have a neutral bias on EM FX as currencies, in general, are caught between global trade tensions and the risk that, were those tensions to ease, US short end rates could rise, helping the USD.
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