EM assets should remain well-supported going forward, though we expect differentiation in FX markets to increase. Higher equity markets in developing countries give further scope for gains, and in some cases, further outperformance for EM shares. Following Turkey’s rate cut and the expected pause in Brazil, we still see further scope for gains in local fixed income markets going forward.
EM FX, however, is a slightly different story. We are still overall bullish, but recognized two headwinds. The first one is exogenous and the second one is a set of idiosyncratic factors. The first is the US dollar, which looks set to gain further against the majors. Yes, EM can continue to gain (against the dollar) in the context of an ongoing dollar bull market against the majors, but it may be a bit harder to do. Second, many EM currencies have reached a point where officials in countries such as Brazil, Korea, Israel, Turkey, and Colombia are once again comfortable to push back against further gains.
Hungary reports April PPI on Wednesday, expected at -1.5% y/y vs. -1.9% in March. April CPI came in much weaker than expected at -0.1% y/y. so there are downside risks to PPI. The central bank cut rates 10 bp today to 2.40% as deflationary impulses remain strong. The central bank may keep cutting rates for another month or two, but we think the end of the easing cycle will probably be seen in Q3. For EUR/HUF, support seen near 303 and then 300, resistance seen near 305 and then 310.
Brazil central bank meets Wednesday and is expected to keep rates steady at 11%. Earlier in the day, it will report April manufacturing PPI, which rose 8% y/y in March. Inflation appears to be leveling out, and should allow the central bank to finally end its tightening cycle. Brazil also reports May IGP-M wholesale inflation on Thursday, which is expected to ease slightly to 7.94% y/y from 7.98% in April. Q1 GDP will be reported on Friday, with growth expected at 2.0% y/y vs. 1.9% in Q4. It also reports April budget data later that day. For USD/BRL, support is seen near 2.20; resistance is seen near 2.25.
Thailand reports April manufacturing on Wednesday, expected at -7.5% y/y vs. -10.4% in March. April trade and current account data will then be reported on Friday. The military coup last week should signal the beginning of the end of the political uncertainty, but it will take several months before any significant improvement in the economy is seen. Investors may also be nervous that the transition back to democracy will take longer than expected. For USD/THB, support is seen near 32.50 and then 32.00; resistance is seen near 32.75 and then 33.00.
Korea reports April current account data on Thursday. It then reports April IP on Friday, expected to rise 3.1% y/y vs. 2.7% in March. The combination of a stronger recovery and good external numbers should keep the won trading with a firmer bias. We expect stronger efforts to resist currency strength if USD/KRW approaches 1000. For USD/KRW, support is seen near 1020 and then 1000; resistance is seen near 1030 and then 1040.
South Africa reports April PPI on Thursday, expected to rise 8.4% y/y vs. 8.3% in March. On Friday, it reports April M3 and credit data, with both series expected to slow from March. Trade and budget data also come out on Friday. Earlier today, Q1 GDP came in at 1.6% y/y, below the expected 1.8% y/y and 2.0% actual in Q4. The SARB left rates steady last week, as expected. Even though Governor Marcus continued to warn of the need to normalize rates, the weak growth profile has likely pushed the next rate hike even further back. For USD/ZAR, support is seen near 10.25 and then 10.00; resistance is seen near 10.50 and then 10.75. Right now, it's testing the 200-day MA near 10.43. Multiple tests this month have failed to yield a clean break above.
Turkey reports April trade on Friday, expected at -$6.55 bln vs. -$5.2 bln in March. If so, the 12-month total would drop sharply to -$91.5 bln from -$95.3 bln, and would be the smallest since May 2013. The external accounts should continue to improve due to slow growth, but we think the central bank’s decision to cut rates last week is a risky one given high inflation. Indeed, Erdogan continues to jawbone the central bank, saying that the 50 bp cut was a joke. If Governor Basci is pushed out, investors should not hesitate to dump Turkish assets. As it is, we recommend being underweight Turkey. Next week sees May CPI reported, which could deliver a wake-up call to investors. For USD/TRY, support is seen near 2.06 and then 2.00; resistance is seen near 2.10 and then 2.15.
India reports Q1 GDP on Friday, with growth expected to remain steady at 4.7% y/y. Indian assets have rallied on the potential for faster growth under Modi, but the impact is unlikely to be seen for several quarters. For now, we think the Indian economy is bottoming but we do not see a strong rebound in 2014. The Modi effect is more of a 2015 story. We do think further gains in the rupee should allow the RBI to start easing policy in H2 2014. For USD/INR, support is seen near 58.50 and then 58.00; resistance is seen near 59.00 and then 60.00.
Chile reports April manufacturing output, retail sales, and unemployment on Friday. All three are expected to show weakness in the economy. Indeed, data have been coming in weak in recent months but with inflation rising above the 2-4% target range, the central bank kept rate steady at 4% in both April and May after 25 bp cuts each in both February and March. Easing should resume in H2, provided the inflation trajectory improves. No move is seen at the next meeting June 12. For USD/CLP, support is seen near 550 and then 540; resistance is seen near 560 and then 570.
Colombia central bank meets Friday and is expected to hike rates 25 bp to 3.75%. Despite concerns about the strong peso, the central bank started its tightening cycle in April with a surprise 25 bp hike. Official comments suggest that the pace of rate hikes will be modest which, along with continued peso strength, poses a potential dovish surprise Friday with steady rates. For USD/COP, support is seen near 1900 and then 1875; resistance is seen near 1925 and then 1950.
Over the weekend, China reports official PMI and is expected at 50.6 vs. 50.4 in April. HSBC flash PMI for May came in higher than expected at 49.7 vs. the 48.1 final in April, pointing to potential upside risks to the official PMI reading. We see USD/CNY continue to drift upwards in the 6.20-6.30 range for now.
(from my colleagues Dr. Win Thin and Ilan Solot)