Emerging Markets: What Changed

(from my colleague Dr. Win Thin)

China stepped up efforts to attract more foreign inflows to the onshore bond market.
Russia has softened its unpopular pension reform proposal.
The African National Congress withdrew an existing land expropriation bill.
Moody’s downgraded twenty Turkish financial institutions.
Turkey central bank Deputy Governor Erkan Kilimci has reportedly resigned.
Moody’s moved the outlook on Egypt’s B3 rating from stable to positive.
Argentina President Macri asked the IMF to accelerate disbursement of its $50 bln credit line.
Argentine central bank hiked rates 15 percentage points to 60% and pledged not to cut until December.
Brazil central bank offered the first new auction of FX swaps since June 22.
US President Trump announced that the US and Mexico had reached a preliminary trade agreement.

In the EM equity space as measured by MSCI, Egypt (+6.9%), Qatar (+6.7%), and Hungary (+3.1%) have outperformed this week, while Colombia (-3.2%), Chile (-2.7%), and South Africa (-2.1%) have underperformed. To put this in better context, MSCI EM rose 0.5% this week while MSCI DM rose 0.7%.

In the EM local currency bond space, the Philippines (10-year yield -36 bp), Chile (-17 bp), and Turkey (-17 bp) have outperformed this week, while Argentina (10-year yield +217 bp), Brazil (+28 bp), and Indonesia (+26 bp) have underperformed. To put this in better context, the 10-year UST yield rose 2 bp to 2.84%.

In the EM FX space, ILS (+0.6% vs. USD), KRW (+0.5% vs. USD), and EGP (+0.2% vs. USD) have outperformed this week, while ARS (-18.2% vs. USD), TRY (-9.6% vs. USD), and COP (-3.2% vs. USD) have underperformed. To put this in better context, MSCI EM FX fell -0.2% this week.

China stepped up efforts to attract more foreign inflows to the onshore bond market. The State Council decided to exempt overseas institutions from paying income and value-added taxes on interest income for three years. Elsewhere, the China Foreign Exchange Trade System began allowing block trades for investments through the bond connect program. Coming a week after the PBOC re-introduced its counter-cyclical factor in the CNY fix, it’s clear that policymakers are not aiming for a weak yuan.

Russia has softened its unpopular pension reform proposal. President Putin said that “I propose a series of measures that will allow us to soften the decisions as much as possible.” The main change is to reduce the planned increase in the retirement age for women to five years from eight originally proposed. Putin also called for measures to smooth the transition to the new rules and to help older workers find jobs.

The African National Congress withdrew an existing land expropriation bill. While this might sound positive, it's actually negative. The 2016 bill that was withdrawn was meant to have the government pay for the land at some sort of "fair value." By withdrawing this bill, the ANC is setting things up for the more controversial proposal to seize land without compensation. Indeed, the ANC said that the constitutional review that’s required for this is proceeding as planned.

Moody’s downgraded twenty Turkish financial institutions. Whilst not surprising, the agency warned that the worst is yet to come for both the banks and the economy. Moody’s said the banks’ operating environment had already deteriorated beyond its previous expectations. The agency noted that “The downgrades primarily reflect a substantial increase in the risk of a downside scenario, where a further negative shift in investor sentiment could lead to a curtailing of wholesale funding.” Fitch warned of taking similar actions on the banks.

Turkey central bank Deputy Governor Erkan Kilimci has reportedly resigned. While Kilimci is said to be joining the board of the Development Bank of Turkey, the timing of the move has added to the gloom. Kilimci may have resigned because Erdogan won't allow the bank to hike rates aggressively, but of course, this is just guesswork. Yet it doesn't really matter who is at the central bank since Erdogan appears to be calling all the shots. Any market-friendly faces have been ignored, marginalized, or ejected.

Moody’s moved the outlook on Egypt’s B3 rating from stable to positive. The agency cited progress in implementing the IMF program as factors helping to boost growth and repair public finances. Our own sovereign rating model shows Egypt’s implied rating steady at B+/B1/B+. Actual ratings of B/B3/B are still enjoying some upgrade potential.

Argentina President Mauricio Macri asked the IMF to accelerate disbursement of its $50 bln credit line. This news unnerved markets, as the request suggests policymakers still don't have a handle on things. Foreign reserves fell to $53.8 bln yesterday, the lowest level since the initial $15 bln IMF tranche boosted reserves from $48.5 bln to $63.3 bln back in June. That means Argentina has already bled $9 bln of those funds.

Argentine central bank hiked rates 15 percentage points to 60% and pledged not to cut until December. It also sold $330 mln to help support the peso, and yet it still ended down 12% on the day though off its all-time worst levels near 41.36. FX intervention continues today, but this is not something that can be sustained. Reports suggest the bank wanted to intervene more but was limited by IMF restrictions.

Brazil central bank offered the first new auction of FX swaps since June 22. There were three separate auctions of new FX swaps totaling $1.5 bln. This was a very aggressive move and brings the total FX swaps outstanding to $68.9 bln. So, what should COPOM do at the September 19 meeting? The market is split, with analysts seeing no hike and the CDI market seeing a 25 bp hike. If BCB wants to make its FX intervention more effective, then it should hike rates 50 bp in September to make a strong statement.

President Trump announced that the US and Mexico had reached a preliminary trade agreement. The two countries were able to resolve some major differences in the auto sector. Canada has not yet agreed to the proposed changes to NAFTA and talks are ongoing ahead of today’s deadline. Here, the sticking points center around the dairy industry and dispute panels.

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