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With both the Federal Reserve (Fed) and the European Central Bank (ECB) holding rates steady and pushing back plans for further tightening, developed market interest rates have come down significantly this year. Have developed markets interest rates bottomed? What does this mean for emerging markets debt investors?
Emerging markets central banks are increasingly reacting to local conditions, and not just to the actions of the Fed and the ECB. Most Eastern European countries, for example, have turned more hawkish with Hungary, Romania and Poland expected to hike rates amid higher growth and inflation. Russia, on the other hand, is expected to cut rates later this year. Most Latin American countries are also tightening or have a tightening bias, with the exception of Mexico where growth remains sluggish. Asian emerging markets are mixed, with some central banks focused on maintaining stability while others are taking advantage of the more conducive external conditions to accommodate growth. Meanwhile, there are several idiosyncratic situations where central banks are treading carefully. After hiking its policy rate to help shore up its currency, weaker growth may lead to rate cuts in Turkey. In Argentina, inflation continues to be an issue while political risks are growing.
With emerging markets central banks pursuing monetary policies that are aligned with local conditions, it is perhaps not surprising that correlations between emerging markets currencies (EMFX) are fairly low, as shown below.
Source: Bloomberg, 31/3/2016 through 31/3/2019.
The average correlation between each currency pair was 0.3. In addition, the average correlation with the U.S. Dollar Index was 0.5, demonstrating a relatively weak correlation with other developed markets currencies. We believe that in addition to providing diversification away from developed markets central bank policy, these low correlations suggest there is also substantial diversity within emerging markets for investors seeking to gain differentiated exposures.
The VanEck Vectors J.P. Morgan EM Local Currency Bond UCITS ETF to date has the lowest TER versus its peers.
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