marctomarket.com / Dr. Win Thin / 2017/08/06
Is EM FX finally turning? We have been surprised (and puzzled) by how well EM currencies have held up as DM rates have risen. Recent price action suggests we may at an inflection point for EM FX. We note too that similar patterns are being seen in the major currencies as well.
The rand may be the so-called “canary in a coal mine” for EM and needs to be watched closely. The rand has been the second worst performer (-3% vs. USD) in H2 after being amongst the top performers (+5% vs. USD) in H1.
We focus on ZAR because we think it has been one of the biggest beneficiaries of the quest for yield by investors. ZAR has always been one of our least favorite EM currencies. South Africa comes with terrible fundamentals, as well as heightened political risk and downgrade risk. Though the high yields have attracted hot money flows, the SARB is now cutting rates. This will ultimately weigh on the rand’s attractiveness.
USD/ZAR bottomed around 12.86 on July 27 and has since moved higher. This bottom was a week after the SARB surprised markets by starting the easing cycle. After an initial rally following the rate cut, the rand steadily weakened. The SARB is likely to continue cutting rates at the September 21 and November 23 meetings, further eroding the interest rate differentials with DM.
Looking elsewhere, it appears that the dollar has bottomed against several other EM currencies. Many are bumping up against some key levels. Failure to break through could see some renewed selling pressures. Below, we identify some possible bottoms for the key EM currencies as well as retracement objectives from the July-August EM rally.
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