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EM Strategy Plus Summary - 26 August 2016

Core Content

This document outlines the Emerging Markets (EM) Strategy Plus report from BNP Paribas Corporate & Institutional Banking, dated 26 August 2016. It provides insights and trade recommendations across various regions, including Asia, CEEMEA, Latam, and others, focusing on interest rates, foreign exchange (FX), options, and credit strategies.

Main Regions and Views

Asia

• Pay IDR NDF curve:

  • Risk appetite is wavering due to long positioning in IDR.
  • Recommend paying USDIDR NDF points to hedge against potential correction.
  • NDF risk premia are historically tight with low negative carry.
  • Trade: Buy 1x12m USDIDR NDF points at 700, target 1000, stop loss 550.
  • Expected performance if IDR assets face pressure, possibly due to tax amnesty inflows or a US rate hike.
  • Chart 1 and 2 illustrate the USDIDR NDF spread and relative positioning in Asian FX.

• Receive 5y CNY NDIRS:

  • CNY rates have sold off sharply following PBoC's decision to use term repos instead of overnight.
  • PBoC is balancing deleveraging and interest rate stability.
  • Recommend fading the sell-off, with a target of 2.60% and a stop loss at 2.90%.
  • Trade has positive carry of about 3bp per quarter.
  • Chart 1 and 2 show the CNY NDIRS vs. onshore IRS and bond swap spread.

CEEMEA

• South Africa:

  • USDZAR is expected to remain on a downward trend, with current rise unlikely to surpass the 50-day moving average.
  • Recommend a fly option strategy (1x2x1) with strikes at 14.10, 13.70, and 13.30.
  • USDZAR implied yield increased by 2 vols, but the trend is seen as a correction rather than a new rule.
  • Chart 1 and 2 illustrate historical ZAR strength periods and deviation from 50-day MA.

• Poland:

  • Took profit on long Jun 26 POLGB trade due to slowed flows and lack of performance.
  • Terminal rate difference between Poland and EUR is relatively flat at 1.8%.
  • Profit locked in: 50bp.

• Turkey:

  • CBRT is likely to ease policy further due to weakening economic activity.
  • Short end of the curve offers value, while the long end is immune to global yield search due to rating risks.
  • CBRT may cut money market rates to as low as 7.5% if global risk sentiment remains supportive.
  • Chart 1 and 2 show CBRT policy rate vs. interest rates and Turkey 10y bond yield vs. EM average.

Latam

• Brazil:

  • Strategy involves being long NTN-B 2021 due to dislocation in the real rates curve.
  • Monetary policy meeting on 31 August will be key for inflation guidance.
  • Impeachment vote outcome is expected between 29 and 30 August, but likely fully priced in.

• Colombia:

  • Monetary policy meeting on 31 August will leave rates unchanged despite unanchored inflation expectations.

• Mexico:

  • Quarterly inflation report will provide insight into inflation risk balance.
  • Banxico kept rates unchanged, and no significant changes are expected from past communications.

Key Recommendations

Key Insights

• EM Strategy Focus: The strategy is heavily influenced by US real rates, which are currently negative or close to zero, indicating continued EM inflows.
• Yellen's Speech: Expected to provide guidance on the September FOMC meeting, with limited impact on US curve steepening.
• Volatility and Correction: Increased volatility and decline in EM returns suggest a potential correction in the coming week.
• Liquidity and Carry: PBoC's liquidity injection and USD funding conditions play a critical role in shaping EM market dynamics.
• Options Strategy: Recommended for managing risk, especially in South Africa and Turkey, where volatility is high.

Conclusion

The report highlights the importance of monitoring US real rates and global risk sentiment in shaping EM strategies. It recommends hedging against potential corrections in IDR markets, fading the CNY rate sell-off, and using fly strategies in USDZAR and other currencies to test ongoing trends. The overall outlook remains cautiously positive, with continued tightening in Slovenia and potential for further easing in Turkey.