Emerging Markets: Where Do We Stand ?

(from my colleagues Dr. Win Thin and Ilan Solot)

EM currencies have traded in several distinct phases this year. After a strong start to the year, the EM rally was derailed by Bernanke’s tapering speech on May 22. EM currencies sold off for much of the summer, with most bottoming in late August or early September as weaker US data lowered the perceived risk of tapering in September. Then, EM was given a new lease on life when the Fed did not start tapering at the September 17/18 FOMC meeting, which led to further EM gains.

The delay in tapering also ushered in a new phase of differentiation. Many of the currencies saw their gains peter out quickly, with many peaking on September 19 and then drifting weaker since. Others built on those initial post-FOMC gains and rallied well into October, but even those are now suffering as the pendulum now seems to be swinging back towards a December taper.

For the most part, we believe that currencies will strong fundamentals should continue to outperform while those with weak fundamentals should continue to underperform. For instance, USD/BRL is now trading higher than it was on September 17, right before the tapering rug was pulled out from under the dollar. Looking at the rest of EM FX, we note that ZAR, CLP, IDR, MXN, TRY, BRL, RUB, PEN, and COP are all trading weaker now vs. USD than they were on September 17. On the plus side, INR, MYR, KRW, THB, SGD, and PHP are all trading firmer vs. USD since then.

Below, we look at EM FX price action in relation to the dollar’s peak after the May 22 speech. Against most in EM, that dollar peak was reached in late August/early September. Many have retraced those moves already. Asia has held on to most of its gains, while Latam and EMEA have not held up as well.

Looking ahead, this current EM selloff may start to peter out as it becomes clear that a December start to Fed tapering is actually less likely than markets perceive. We do not think this Friday’s jobs report can have much lasting impact on Fed policy and market perceptions of policy, since data will be distorted. So too will the November jobs data out in early December. So EM FX may be able to gain some temporary traction but we remain more concerned about further selling pressures when tapering is eventually warranted.

What has changed from the original May sell off is that the policy defenses in many EM countries are now firmly in place. There will be much less confusion about intervention mechanisms, key levels, and official conviction should we face another bout of prolonged EM selling. Hopefully, this will remove some of the impetus behind the panicky moves seen over the summer in EM. This has also helped reduce implied volatility in many EM countries. That said, the 3-month implied volatility for most major EM currencies have not returned to pre May-levels (with the exception of USD/KRW).

LATIN AMERICA

USD/BRL: This pair peaked on August 21 and then bottomed on October 18. Upcoming retracement objectives from this move come in near 2.30 (50%) and then 2.3375 (62%).

USD/CLP: This pair peaked on August 19 and then bottomed on September 19. Major retracement objectives have already been broken, pointing to a test of the August high near 520.

USD/COP: This pair peaked on September 5 and then bottomed on October 16. Final retracement objective from this move comes in near 1927 (62%) after today’s break of 1917 (50%).

USD/MXN: This pair peaked on September 3 and then bottomed on September 19. Upcoming retracement objective from this move comes in near 13.13 (62%), which has been tested today. Clean break of this would target the September high near 13.47.

USD/PEN: This pair peaked on August 20 and then bottomed on September 19. Final retracement objective from this move comes in near 2.79 (62%) %), which is being tested today. Clean break of this would target the August high near 2.83.

EMEA

EUR/HUF: This pair peaked on August 28 and then bottomed on October 25. Upcoming retracement objectives from this move come in near 297.50 (50%) that is being tested today and then 299 (62%).

EUR/PLN: This pair peaked on September 5 and then bottomed on September 19. Retracement objectives from this move come in near 4.2075 (38%), 4.2270 (50%), and 4.2465 (62%).

USD/ILS: This pair peaked on August 28 and then bottomed on September 19. Retracement objectives from this move come in near 3.5580 (38%), 3.5815 (50%), and 3.6050 (62%).

USD/RUB: This pair peaked on September 6 and then bottomed on September 19. Upcoming retracement objectives from this move come in near 32.55 (50%) that is being tested today followed by 32.80 (62%).

USD/TRY: This pair peaked on September 5 and then bottomed on September 19. The last major retracement objective from this move came in near 2.0265, which has been broken today. Clean break targets the September high near 2.0840.

USD/ZAR: This pair peaked on August 28 and then bottomed on September 19. The last major retracement objective from this move comes in near 10.1425, which was broken on Friday. Clean break targets the August high near 10.5100.

ASIA

USD/IDR: This pair peaked on September 6 and then bottomed on October 23. Still, this pair remains largely stuck in the very narrow 10800-11800 range since August, where it has resided since August.

USD/INR: This pair peaked on August 28 and then bottomed on October 18. Retracement objectives from this move come in near 63.955 (38%), 64.889 (50%), and 65.823 (62%).

USD/KRW: This pair peaked on August 22 and then bottomed on October 24. Retracement objectives from this move come in near 1082 (38%), 1090.50 (50%), and 1099 (62%).

USD/MYR: This pair peaked on August 28 and then bottomed on October 28. Retracement objectives from this move come in near 3.2050 (38%), 3.2300 (50%), and 3.2550 (62%).

USD/PHP: This pair peaked on August 28 and then bottomed on September 19. Retracement objectives from this move come in near 43.66 (38%), 43.885 (50%), and 44.11 (62%).

USD/SGD: This pair peaked on August 22 and then bottomed on October 23. Retracement objectives from this move come in near 1.2540 (38%), 1.2600 (50%), and 1.2665 (62%).

USD/THB: This pair peaked on September 6 and then bottomed on September 20. Retracement objectives from this move come in near 31.50 (38%), 31.68 (50%), and 31.87 (62%).

USD/TWD: This pair peaked on August 23 and then bottomed on October 4. Retracement objectives from this move come in near 29.58 (38%), 29.67 (50%), and 29.76 (62%).