Rising Global Rates – Birds of a Feather

By Natalia Gurushina
Chief Economist, Emerging Markets Fixed Income Strategy
Van Eck Associates Corporation

Summary

The mood in emerging markets remained hawkish this morning. The question is whether policies specific to emerging markets can offset the negative impact of rising “risk-free” rates on bond index total returns as the Fed continues to rise.

US HIKING CYCLE AND EM RETURNS

the US Federal Reserve Powell chair warmongering comments – which opened the door to 50 basis point rate hikes – are still being digested by the market this morning, with the UST 10-year yield nearly 10 basis points higher at the time of the note (at 10:00 a.m. ET , according to Bloomberg LP). Fed Funds Futures now involve a total of 192 basis points of additional tightening until the end of the year. From the perspective of emerging market (EM) fixed income, the rise in “risk-free” rates has accounted for (so far) a larger portion of the bond index’s losses this year (compared to the yield differences). The question is whether policies/developments specific to emerging markets can offset these losses in the future – just as they have done on the previous two US trek cycles.

RISKS OF STAGFLATION IN CENTRAL EUROPE

Today the mood in EM was equally hawkish. Hungary raised its policy rate by 100 basis points higher to 4.4%, following a series of upside inflation surprises, and the consensus now expects a 30 basis point hike in the 1-week deposit rate on Thursday. the key challenge for monetary authorities in all Central European countries face stagflationary fallout from Russian-Ukrainian war, which weighs on growth prospects but should push inflation up from already very high levels. Regional central banks now use foreign exchange interventions to minimize inflationary transmission lower FX. The Czech National Bank has announced that it may sell part of its international reserves to support the krone.

BRAZIL AGGRESSIVE FRONT LOADING

The swap curve in Brazil is now firmly on another rate hike of 100 basis points in May and at least 50 basis points in June. This is actually more than suggested by central bank minutes released this morning, but a more bullish stance (less bullish) is based on the expectation of oil price moderation. Moreover, inflation expectations continue to rise, which may require further policy action. from Brazil the aggressive frontloading of rising rates is why its the real policy rate adjusted for expected inflation is now the highest among major emerging markets. Brazil’s real policy rate based on rolling inflation is also positive, unlike most emerging markets. This is one of the reasons currency finally enjoys its place in the spotlight, being best performing EM FX so far this year (see table below). Another reason, of course, is that commodity exporters should benefit from the disruption caused by the Russian-Ukrainian war. Stay tuned!

Chart at a glance: impact of rising food prices on low-income countries

Source: Bloomberg LP

Originally published by VanEck on March 22, 2022.
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PMI – Purchasing Managers Index: economic indicators drawn from monthly surveys of private sector enterprises. A reading above 50 indicates expansion and a reading below 50 indicates contraction; ISM – Institute of Supply Management PMI: ISM publishes an index based on more than 400 surveys of purchasing and supply managers; in both manufacturing and non-manufacturing industries; CPI Consumer Price Index: an index of the change in prices paid by typical consumers for retail goods and other items; PPI – Producer Price Index: a family of indices that measures the average change in selling prices received by domestic producers of goods and services over time; PCE inflation – Personal consumption expenditure price index: a measure of US inflation, tracking changes in the prices of goods and services purchased by consumers across the economy; MSCI-Morgan Stanley Capital International: a US provider of equities, fixed income, hedge fund stock indices and equity portfolio analysis tools; VIX – CBOE Volatility Index: an index created by the Chicago Board Options Exchange (CBOE), which shows market expectations for 30-day volatility. It is constructed using implied volatilities on S&P 500 index options; GBI-EM – JP Morgan Government Bond Index – Emerging Markets: comprehensive emerging market debt benchmarks that track local currency bonds issued by emerging market governments; EMBI – JP Morgan Emerging Markets Bond Index: JP Morgan index of sovereign bonds denominated in dollars issued by a selection of emerging countries; EMBIG – JP Morgan Emerging Markets Global Bond Index: tracks the total returns of external debt instruments traded in emerging markets.

The information presented does not imply the provision of personalized investment, financial, legal or tax advice. This is not an offer to buy or sell, or a solicitation of an offer to buy or sell, any of the securities mentioned herein. Certain statements contained herein may constitute projections, forecasts and other forward-looking statements, which do not reflect actual results. Certain information may be provided by third party sources and, while believed to be reliable, it has not been independently verified and its accuracy or completeness cannot be guaranteed. All opinions, projections, forecasts and forward-looking statements presented herein speak as of the date of this communication and are subject to change. The information contained herein represents the opinion of the author(s), but not necessarily that of VanEck.

Investing in international markets involves risks such as currency fluctuation, regulatory risks, economic and political instability. Emerging markets involve increased risks related to the same factors as well as increased volatility, lower trading volume and less liquidity. Emerging markets may have greater custodial and operational risks, and less developed legal and accounting systems than developed markets.

Any investment is subject to risk, including the possible loss of the money you invest. As with any investment strategy, there is no guarantee that the investment objectives will be achieved and investors may lose money. Diversification does not guarantee a profit or protect against loss in a declining market. Past performance is no guarantee of future performance.

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