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Fed signals concern about low inflation but expect to start unwinding QE soon. But market pricing for a fed funds rate hike before December ticked up slightly to almost 50%.
While the July FOMC meeting came and went, keeping policy rates unchanged, the Fed hinted at an announcement of balance sheet normalization in September, while tilting its language on the inflation outlook to the dovish side, without any notable upheaval to EM assets. We have our eye on geopolitics, with some tail-risk concerns on tensions emanating from the White House.
Carry trades retain their appeal, despite lurking geopolitical concerns. Considering spot indices, it appears that valuations are less stretched in EMEA high-carry currencies compared to those in other regions.
Since early 2016, when the current bull run in EM FX commenced, there appears to be an optical resistance level in the EM high-carry spot index, against which high-carry currencies in the aggregate struggle to break through.
Currently, high-carry EM FX is against hitting up against this “technical” ceiling and may struggle to make consistent progress without stronger fundamental drivers.
EMEA an EMFX stay UW FX in the GBI-EM Model Portfolio. For now, our preferred high yielding currency in EMEA remains to TRY given the high carry on offer. In the case of RUB, we think structurally supportive currency factors (current account surplus, high real yields, and reasonable valuations) will re-assert themselves post summer seasonal weakness in the currency.
Trade highlights:
FX: Short USDCLP
FX: Short USDTHB
Rates: Receive 1-year RUB cross-currency rates
Rates: Pay INR 5y NDOIS.
