Emerging Markets: What has Changed

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

1) Some EM policymakers are becoming more worried about weak currencies
2) The PBOC failed to drain liquidity for the past three sessions, fueling speculation of a cut in reserve requirements
3) The Reserve Bank of India keep rates unchanged, but indicated potential easing for the first time this cycle
4) Last weekend’s elections in Taiwan resulted in a stunning loss of the ruling Kuomintang
5) Israel Prime Minister Netanyahu will seek early general elections, likely strengthening the right wing of the party
6) Russia President Putin dropped a controversial gas pipeline that was meant to go through Bulgaria and bypass Ukraine
7) The Brazilian central bank accelerated the pace of tightening, but sounded dovish

Over the last week, Czech Republic (+2.1%), the Philippines (+1.9%), and Poland (+0.1%) have outperformed in the EM equity space as measured by MSCI, while Brazil (-8.5%), Russia (-7.8%), and Malaysia (-6.9%) have underperformed.  To put this in better context, MSCI EM fell -2.5% over the past week while MSCI DM fell -0.4%.

In the EM local currency bond space, India (10-year yield -18 bp), Turkey (-3 bp), and Singapore (-3 bp) have outperformed over the last week, while Ukraine (10-year yield +119 bp), Russia (+63 bp), and Brazil (+26 bp) have underperformed.  To put this in better context, the 10-year UST yield rose 4 bp over the past week.

In the EM FX space, PHP (+0.5% vs. USD), PLN (+0.4% vs. EUR), and PKR (+0.1% vs. USD) have outperformed over the last week, while RUB (-10.3% vs. USD), COP (-5.7% vs. USD), and MYR (-2.9% vs. USD) have underperformed.

1) Some EM policymakers are becoming more worried about weak currencies.  The Malaysian central bank warned banks to guard against speculation in the ringgit.  The warning came after the currency fell to its weakest level in almost five years.  Well, the last time we checked, MYR is a restricted currency and is not freely tradable.  And so the blame game starts, and this suggests rising official concern with MYR weakness.  Elsewhere, Russia’s Putin called for “harsh” measures against ruble speculators.  Same thing goes here, as the ruble is a restricted currency that's not freely tradable.  Expect more pushback from others in EM as the dollar continues to make new multi-year against more and more currencies.

2) The fact that the PBOC failed to drain liquidity for the past three sessions has encouraged speculation of a cut in reserve requirements and pushed China money rates down.  We see further easing ahead, as the PBOC has in the past shied away from “one and done” moves.  China stocks have responded as one would expect.  The Shanghai Composite is up 10.25% over the past five sessions.  It has gone parabolic, rallying 18.6% over the past eleven sessions and now sits at fresh three-year highs.  In addition, reports suggest that officials will soon allow wealth management products to trade on the bond and stock markets, dis-intermediating the trust banks, and further squeezing shadow banking activity.

3) The Reserve Bank of India keep rates unchanged, but indicated potential easing for the first time this cycle.  The communication by the RBI indicated that, if the current price trends continue, they will be ready to cut rates soon.  We agree, and believe that the easing cycle could start in Q1.  But like Indonesia and Malaysia, cuts in fuel subsidies will put upward pressure on headline inflation and so should keep RBI in cautious mode near-term.  Political developments in India have also been mostly positive indicating that, at least, Modi will show some constrain on the fiscal side. 

4) Last weekend’s elections in Taiwan resulted in a stunning loss of the ruling Kuomintang.  Premier Jiang Yi-huah has since resigned his post, while President Ma resigned as head of the KMT.  President Ma has promised to respect the electoral outcome, which can only mean some dilution in his efforts to forge closer ties with the mainland.  Over the last six years, nearly two dozen agreements have been struck.  A rearguard action to secure and protect what has been achieved will likely dominate the agenda until the 2016 presidential election.  TWD has gradually but steadily depreciated against the USD since early September.  If anything, the implications of the electoral results are likely to weaken it further.

5) Israel Prime Minister Netanyahu will seek early general elections.  He also removed his Finance and Justice Ministers.  Much of Netanyahu’s discontent comes from the tensions within his coalition due to internal opposition to the 2015 budget and the designation of Israel by law as a "Jewish state."  The move is thought to lead to a shift towards a more right-wing (or hawkish) administration.  Elections are expected to take place in March.

6) Russia President Putin dropped a controversial gas pipeline that was meant to go through Bulgaria and bypass Ukraine.  Putin announced Gazprom would no longer seek approval to build a pipeline that would have taken its gas directly to central and southern Europe, after opposition from the EU led Bulgaria to freeze construction back in June.  Speaking during a visit to Ankara, Putin said Gazprom would instead consider a “gas hub” to Europe set up near Turkey’s border with Greece.  The two nations also agreed to use local currencies for trade, aiming for $100 bln in bilateral commerce by 2020. 

  
7) The Brazilian central bank accelerated the pace of tightening, but sounded dovish.  In our view, by referring to the lagged effects of rate hikes and saying future moves will be “parsimonious,” the bank seems to suggest that the cycle will be shorter than anticipated.  Still, we expect the bank to continue hiking at least twice more. Separately, some observers saw the increase in the government transfer to the BNDES development bank (to R$60 bln from R$50) with suspicion, and increases the quasi-fiscal costs.  All things considered, this will probably mean a steepening bias ahead, and it could weigh on BRL going forward.