In the EM equity space as measured by MSCI, Indonesia (+4.2%), Poland (+3.9%), and Brazil (+1.9%) have outperformed this week, while Czech Republic (-5.4%), Singapore (-1.5%), and UAE (-1.3%) have underperformed. To put this in better context, MSCI EM rose 1.2% this week while MSCI DM fell -0.4%.
EM ended last week on a firm note, helped by the weaker than expected US Q2 GDP report as well as the small bounce in oil. With the RBA and BOE expected to ease this week, the global liquidity backdrop remains favorable for EM and “risk.” US jobs report Friday will be very important for EM going forward.
We get our first glimpse of the Chinese economy for July with the PMI readings this week. EM CPI data this week should underscore the low global inflation theme. More EM central banks are likely to join the easing parade in H2.
In the EM equity space as measured by MSCI, Turkey (+4.8%), India (+1.4%), and Qatar (+1.3%) have outperformed this week, while Colombia (-6.4%), Mexico (-3.2%), and Singapore (-2.9%) have underperformed. To put this in better context, MSCI EM rose 0.6% this week while MSCI DM rose 0.6%.
EM ended the week on a soft note, as the dollar reasserted broad-based strength against most currencies. The FOMC meeting this week could see the Fed push back against the market’s dovish take on policy, in which case EM would be likely to remain under pressure.
The New York Times reported that the US is preparing to seize $1 bln in assets tied to 1MDB, S&P downgraded Turkey a notch to BB with a negative outlook, citing political uncertainty, Turkish President Erdogan declared a three-month state of emergency, The Nigerian Naira weakened above 300 per dollar for the first time, and Brazil’s central bank signaled a longer wait until it cuts rates
EM ended last week on a soft note, due in large part to the attempted coup in Turkey. Weakness in the lira spilled over into wider EM weakness in thin Friday afternoon market conditions. The situation in Turkey has calmed, and so EM may gain some limited traction this week. However, that calm will likely be very fragile and so we retain a defensive posture concerning EM.
EM and other risk assets rallied on Friday after the strong US jobs data. It appears that markets are pricing in a benign backdrop for risk near-term; that is, the US economy is recovering but not by enough to warrant an imminent Fed rate hike. The July 27 meeting seems unlikely, and so the next likely window would be September 21. Yet EM typically weakens in the run-up to FOMC meetings and so investors should be very careful about taking on too much risk.
EM and risk recovered nicely from the Brexit turmoil last week. Yet we think markets are being too carried away with the “low rates forever” theme and are likely underestimating the capability of the Fed to tighten before 2018. This Friday, the June jobs data could spark a shift in sentiment with a strong reading. Consensus is currently 175k jobs created, up from 38k in May.
Indonesia’s parliament approved a tax amnesty bill, Korea announced KRW20 trln ($17 bln) in fiscal stimulus, Czech President Zeman said a referendum on EU and NATO membership should be held, Russia ended its tourism ban to Turkey, Brazil’s central bank is sending hawkish signals, Banxico hiked rates by a larger than expected 50 bp to 4.25%
The Brexit vote is a game-changer for EM. While the direct impact on EM is limited, the damage to market sentiment is undeniable. In addition, to make matters worse, there will be a protracted period of uncertainty as the UK and the EU negotiate the divorce proceedings.
We do not think individual country stories will matter much in this new investment climate, where risk assets are likely to remain under broad-based selling pressures. We believe that Asia will outperform, while Latam and EMEA are likely to underperform.
