We continue to favor local currency bonds in emerging markets and Asia, with the real yield differential to developed markets at a high level. We expect inflation to remain favorable in most emerging markets, and the fundamental undervaluation of emerging market currencies supports this view. In Asia, we expect Thailand to underperform. Thai LC government bond yields are low relative to emerging markets and are expected to gradually decline alongside US Treasuries.
Hard currency (HC) government bonds are underperforming the Philippines
We also remain positive on EM-HC bonds as they offer attractive spreads for government bonds that outweigh the potential value of their government bonds. Emerging market growth appears to be bottoming out, and Chinese economic momentum is likely to keep this picture on track for the coming quarters. In Asia, we have underperformed the Philippines due to the long duration duration of US government bonds, given the high duration. In addition, the carry is low compared to the EM benchmark. We also moved China into a neutral position as we expect the return on higher yields to outstrip declining idiosyncratic risks and a stable USD.
Asia FX: The USD stumbles
The combination of more cautious expectations of US interest rates and falling crude prices led to a decline in USD / Asian exchange rates last month. However, we are cautious to expect an expanded move at the same pace, as market expectations for US rates may have already passed and the oil price is likely to continue to rise.
Asian currency against the USD deficit currencies recovered on lower oil prices
However, it should be noted that the global growth situation – and thus the policy of the Fed – is still evolving and is very likely to remain very dynamic. As a result, our expectations regarding USD / Asian exchange rates will need to be reassessed fairly frequently over the next few months.
INR and IDR benefit from lower oil
In USD / IDR and USD / INR, both the interest rate environment and the oil price helped lower our 3M targets (to 14,000 and 71.0 respectively) and the INR was not neutral as before. Parliamentary elections are expected to take place in Indonesia and India – April 2019 and April – May 2019, respectively – but the risk of political uncertainty currently seems to be higher in India. Apart from politiAAUC, it seems likely that Bank Indonesia will be a little less gloomy than the Reserve Bank of India. The former should also be less aggressive on the dollar, as Indonesia is increasing its reserves relative to short-term foreign debt.
Trade agreement between the US and China is more likely
Otherwise, trade talks between the US and China seem to have gone quite well, and market volatility in the US seems to increase pressure on both sides to come to an agreement. Surely the process will continue to dwindle, but it seems to be going in the right direction, at least. USD / CNY has already fallen below the earlier signs of convergence, and we see no further downtrend, as the current level is in line with what is needed to negate the existing tariff regime, which is expected to be suspended – in the new agreement. USD / CNY is also likely to be supported by China's commitments to reduce bilateral trade imbalances and expansionary fiscal and monetary policies. We see the couple in 6 and 6 months respectively at 6.85 and 7.00.
This part of the material: (i) aims to provide macro market commentary; (ii) contains no statements or advice regarding certain marketable securities or financial products; and (iii) does not consider your personal circumstances and should not be treated as a form of regulated financial advice, legal, tax or other regulated services.