Emerging Markets: What has Changed

1) China relaxed some rules on foreign capital flows 2) Malaysian Prime Minister Najib is tightening his grip on power 3) The Czech National Bank (CNB) has tilted more dovish 4) Ukrainian Economy Minister Abromavicius resigned abruptly, throwing the ruling coalition into turmoil 5) Argentina unexpectedly settled with holdout Italian investors 6) Press reports suggest Brazil’s central bank is considering rate cuts later this year.In the EM equity space, UAE (+6.2%), Indonesia (+4.0%), and Qatar (+1.8%) have outperformed this week, while Hong Kong (-2.0%), Czech Republic (-1.9%), and Hungary (-1.2%) have underperformed.  To put this in better context, MSCI EM fell -0.1% this week while MSCI DM fell -1.0%.

In the EM local currency bond space, Indonesia (10-year yield -24 bp), Thailand (-15 bp), and the Philippines (-14 bp) have outperformed this week, while Ukraine (10-year yield +27 bp), Malaysia (+12 bp), and Brazil (+5 bp) have underperformed.  To put this in better context, the 10-year UST yield fell -4 bp this week.

In the EM FX space, BRL (+2.6% vs. USD), ILS (+1.8% vs. USD), and CLP (+1.7% vs. USD) have outperformed this week, while RUB (-2.4% vs. USD), ARS (-2.1% vs. USD), and MXN (-1.5% vs. USD) have underperformed.1) China relaxed some rules on foreign capital flows.  Investors in the Qualified Foreign Institutional Investor (QFII) program will no longer need to apply for quotas, and maximum investible amounts will instead be based on assets under management (with a ceiling of $5 bln).  Funds will also be able to move funds in and out of the country on a daily basis and not be subject to lock-up periods.

2) Malaysian Prime Minister Najib is tightening his grip on power.  The son of former Prime Minister Mahathir was ousted as chief minister of Kedah state.  Both Mahathirs have been critical of Najib, and so the ouster is a sign that those opposed to the government have seen their hand weaken.

3) The Czech National Bank (CNB) has tilted more dovish.  While leaving rates steady this week, the CNB said that negative rates were “seriously” discussed at this meeting, for the first time ever it seems.  It also extended its forward guidance on maintaining current policies to H1 2017 from H2 2016 previously.

4) Ukrainian Economy Minister Abromavicius resigned abruptly, throwing the ruling coalition into turmoil.  He said that he wouldn’t be a “puppet” for the government, and claimed some officials are blocking much-needed overhauls of the economy and its institutions.  He said politicians, including one from President Poroshenko’s party, had pressured him to appoint “dubious people” at state-controlled companies.

5) Argentina unexpectedly settled with holdout Italian investors.  The government has agreed to pay $1.35 bln in cash to a group of Italian investors who hold debt from Argentina’s 2001 default.  The settlement supports our view that the new Argentine government will strike a deal with the long-time holdout group led by Paul Singer.  Those talks started this week in New York.

6) Press reports suggest Brazil’s central bank is considering rate cuts later this year.  So not only did it confound markets by not hiking last month, but now the bank may actually be thinking about easing.  If it does ease, it would be the first cut since 2012.  We are skeptical, however, as inflation and inflation expectations continue to rise across most measures.