In the face of the surprise outcome of the British vote on EU membership, EM
currency and rates markets have sold off significantly. Currently, the Polish zloty
and the Hungarian forint are off between 3% and 4%, the rand by close to 4% and
the ruble by 2%. The reaction in Asian currencies is a bit more muted with most
currencies off 1% to 2%. The Mexican peso traded through 19 overnight, but has
come back a bit since the lows. On the dollar side, the EM sovereign index is down
around 0.75% with spreads widening to around 400 – 410 bps.
The market reaction may well be overdone as people factor in the potential for
monetary measures to ensure sufficient market liquidity, fiscal initiatives to offset the
economic impact of the vote on private investment and the length of time the exit
process will actually take. It’s also likely that this moves the Fed out to December at
the very earliest. On the other hand, there are obvious longer term risks, not the least
of which is the implication for the success of similar Vox Populi movements in other
countries in Europe and elsewhere.
Our take away from this event is twofold: (1) Global growth will be slower and DM
Central Banks will need to maintain or increase their accommodative policies. This
means we are in a lower for longer rate environment. (2) EM will be a longer term
beneficiary as this will reinforce a turning point in relative growth rates of EM versus
DM leading to a near term buying opportunity for both EM dollar and local currency
debt and later EM equity.
We believe this morning’s market reaction is overdone (except perhaps in the case of
the CEE) and could provide an interesting buying opportunity into the asset class for
those who were looking at the market and missed the first half 2016 rally.
JP Morgan Emerging Market Currency Index: Short-Term Chart
Source: Bloomberg, JP Morgan
JP Morgan Emerging Market Currency Index: Medium-Term Chart
Source: Bloomberg, JP Morgan