MUFG: First look at 2024 – from homogeneity to selectiveness across EMs

November 13, 2023

EM assets have been charting a narrow course between to two core headwinds in 2023 – (i) higher US interest rates; and (ii) slower Chinese growth. Yet, that narrow course has yielded some significant outperformance in places.

First, EM equities ex. China have performed relatively well even as Chinese equities have remained tepid. Second, EM currencies have outperformed the rest of G9 even though the US dollar has been stern. Third, EM local rate spreads relative to the US are at their tightest levels in years, reflecting the outperformance of EM rates.

Looking into 2024, we view heterogeneity across the EM complex will be key as it is hard to be constructive on EMs on a homogenous basis – both across geographies and across asset classes. We favour a selective approach on EM and favour the GCC region, India, Indonesia and Mexico, whilst from an EM asset-allocation perspective, hard currency or external debt looks more attractive to us versus local currency debt, equities or FX.

FX views

EM currencies have corrected lower over the past week, giving back some of the sharp gains recorded just after the release of the weaker nonfarm payrolls report for October. EM central banks have already started to cut rates ahead of the Fed, while Fed officials discourage US rate market from pricing in more cuts in 2024.

Banxico provided one of the biggest dovish policy surprises last week when their updated forward guidance signalled that they are moving closer to cutting rates. Yet with financial market volatility falling and yields in Mexico still elevated, the MXN remains attractive as a carry currency which should help to prevent a sharper sell-off.

Trading views

While we had expected the USD sell off post NFP to bounce we have been surprised by the scale of the recovery with most pairs not just back to NFP levels but rather quite a bit past it. While some pairs like MXN had their own domestic reason for the bounce overall we feel the move was not so much driven by Powell but rather showed once again how there is a real lack of appetite for significant and substantial inflows into EM markets these days.  

Week in review

Czech Republic and Russia’s October inflation rebounded higher while Hungary’s consumer prices continued on the disinflation path and recorded 9.9% y/y in October. Egypt’s inflation slowed to 35.8% y/y in October after four months of record price rises. Meanwhile, central banks in Poland and Romania left key rates unchanged. Turkey posted current account surplus in September (USD1.9bn), on the back of slowing imports of gold.

Week ahead

Q3 GDP data is expected to be released in Poland (MUFG and consensus: 0.4% y/y) and Romania (MUFG and consensus: 2.3% y/y). Inflation data for October will be released in Israel.

Forecasts at a glance

In a world of tightening global financial conditions and questions about the liquidity implications of the now-finalised US debt ceiling, we see a degree of macro risks for EM economies in H2 2023, with external funding requirements the central concern.

We expect EM growth to trough this year but remain below potential in the 2024 recovery. The silver lining is that subdued growth should cap inflation, facilitating monetary policy easing where external balances allow.