A cautious stance on local currencies

We still have a negative view on emerging currencies overall as the Chinese economy shows signs of continuing slowdown and we expect US dollar strengthening, driven by a hawkish monetary tone.

Our current cautious stance on emerging currencies translates into a very long positioning on the USD. In that context, we are staying negative on many emerging currencies. In particular, we reduced our exposure towards Asian currencies (for instance CNY, MYR, PHP, IDR). These currencies remain very sensitive to the Chinese economy. Regarding MYR, we increased our underweight given the deterioration of endogenous economic parameters (accelerating FX reserve losses, ongoing political scandals) and the lower oil and gas prices.

We are also negative on THB. We do not expect the recent bomb attack, if it remains a singular occurrence, to have a significant impact on the economy or the tourist industry. We retain our negative positioning in both FX and rates on a negative fundamental bias overall.

Elsewhere, we remain negative on MXN – one of the currency proxies most used by market participants to hedge their Emerging Forex risk (as it is one of the most liquid). We are still negative on ZAR given the weak growth and twin deficit. In this context, we have few currencies we overweight. We keep our exposure on INR. A decline in commodity prices is favourable for India and we still consider that the on-going reforms have started to bear fruit.

Local rates are attractive on a long-term perspective

The Emerging Market debt denominated in local currencies is one of the most attractive Fixed Income asset classes, with a yield at currently around 7%.

Current yield levels provide a cushion against further local currency correction and core rate volatility. Many Emerging countries are facing lower inflation due to lower commodity prices or weak domestic demand. As a result, Emerging central banks are adopting a more accommodative stance by cutting policy rates. This could bring support for local rates. In particular, we continue to remain exposed to countries like Indonesia and Russia, where we expect rate cuts given the weak growth expectations.

However, we remain cautious on local rates from commodity exporters like Peru, Colombia, Malaysia and countries whose central banks are in hiking rate mood (South Africa, Brazil).

Appealing risk/return features of external debt

External debt is displaying attractive features, with a spread versus US Treasuries fluctuating at around 400 bps. In a low-yield environment, we consider this spike in the spread as a good buying opportunity given the attractive risk/return features. Technical factors are also positive drivers. Flows should continue to enter the asset class as they did in H1. The low net new supply (i.e., new issues minus redemptions, about USD 2 bn.) is also highly supportive.