We identified three forces that have undermined emerging markets as an asset class: The US policy mix, which results in upward pressure on the dollar and interest rates, competes with other capital importers. This coupled with the second force, the rise in oil prices (which to some extent is also the result of US policies, such as the embargo of Iran), leads to the deterioration of many emerging market economies' external balances and weakens growth. The third force is the domestic policies pursued that can repel or attract global savings. What has changed?
Oil prices have eased. Since October 3, Brent has fallen 10%. Still, the decline needs to be sustained to have much impact. Despite President Trump's criticism, the Federal Reserve seems determined to gradually raise interest rates and more officials recognize the likelihood that this will eventually take the target rate above the long-term neutral rate. Macro policies have not changed in unexpected ways. That said, Turkey has taken some measures that begin repairing some of the damage done to its international standing but more in the political arena than economics, though some easing of US sanctions may be forthcoming.
The JPMorgan Emerging Market Currency Index has appreciated four percent since putting in a multi-year low in early September. The counter-trend gains have approached an important technical area, which, if this is simply a normal correction, should cap the upside. The MSCI Emerging Markets Equity Index is a similar picture. The index fell to its lowest level since March 2017 last week and has staged a recovery. It also has appreciated a little more than 4%, and it too has approached a possible technical inflection point.
Some individual currencies are also near important technical levels. The Turkish lira, which is benefiting from a dramatic improvement in the current account and improved political relationship, has nearly retraced half of its earlier losses and has approached the 100-day moving average. The short-covering rally may stall as the economic contraction is expected to roll in. The central bank meets next week and is likely to stand pat. Foreigners were sellers of Turkish bonds in the week ending October 12 even as the lira rallied. The South African rand has strengthened, pushing the dollar to solid support near ZAR14.00. The Argentine peso has appreciated 14% since the start of the month, and there too the dollar is finding support near ARS36. The dollar appears to have carved out a shelf against the Mexican peso near MXN18.70. The upper end of the range is seen a little above MXN19.20 where the 100-day moving average is found.
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