EM Strategy Summary – 17 February 2017
Core Content
This document outlines the current outlook and recommendations for Emerging Markets (EM) credit and currency strategies from BNP Paribas, with contributions from various regional strategists. The key themes revolve around the potential for a correction in EM credit due to rising yields and US rate hikes, while also highlighting the performance of Asian currencies and the implications of policy changes in China and other regions.
Main Points
1. EM Credit Outlook
- Forecast Revisions: Growth, inflation, and central bank policy forecasts have been revised upward, particularly for the Fed and ECB.
- Performance: EM credit has outperformed EM FX since the US election and is in significantly rich territory compared to global credit.
- Caution Advised: A correction in EM credit is anticipated due to the potential yield spike and the upcoming May Fed rate hike.
- Strategies: Investors are advised to be cautious, consider EM corporate bonds for yield spike resilience, and use options to hedge against rate uncertainty.
2. Key Market Themes
- Asia: Asian currencies are showing strength due to improved portfolio inflows and central banks' reluctance to intervene.
- China: Short-term interest rates are expected to remain bearish, but liquidity is anticipated to be sufficient. Investors are advised to consider 3-month NCDs at 4.4–4.5%.
- South Africa: USDZAR is expected to return to its trend level, with a call spread roll-over pending a more extreme level.
- Turkey: Mid-curve bonds may offer better value, but caution is advised due to the potential for a large supply in March.
- Latam: Argentina and Brazil are under review, with Brazil expected to continue its rate easing cycle. Mexico's rate hike cycle and Colombia's rate decisions are also in focus.
Key Information
3. Risk Premium and Market Valuations
- Risk Premium: The global risk premium model suggests caution as EM/Latam risk assets have appreciated significantly.
- Valuation Concerns: EM credit is in rich territory, and a rise in real rates could lead to outflows, especially given its frontier status.
4. Trade Recommendations
Interest Rates
| Trade |
PV01 / Notional |
Entry Date |
Entry Level |
Current |
Target |
Stop |
P/L |
P/L (kUSD) |
| Pay 1Y1Y RUB XCCY |
5k USD |
10-Feb-17 |
7.23% |
7.14% |
7.30% |
7.10% |
-9 bp |
-45 |
| Receive 5Y5Y SGD IRS vs. 5Y5Y USD IRS |
10k USD |
19-Jan-17 |
0.55% |
0.35% |
0.20% |
0.70% |
+20 bp |
200 |
| INR NDOIS 2Y5Y flattener |
10k USD |
16-Jan-17 |
0.29% |
0.30% |
0.10% |
0.40% |
-1 bp |
-10 |
| Receive 1Y1Y KRW NDIRS |
10k USD |
17-Nov-16 |
1.60% |
1.58% |
1.40% |
1.70% |
+2 bp |
20 |
| Receive 5Y AUD IRS vs. pay 5Y KRW IRS |
10k USD |
04-Jan-17 |
0.96% |
0.85% |
0.60% |
1.10% |
+11 bp |
110 |
| Flattening Colombia IBR 1y-3y |
6k USD |
27-Jan-17 |
-63 |
-82 |
-90 |
-39 |
+19 bp |
148 |
| Flattening Brazil DI Jan18sJan20s |
25k USD |
13-Jan-17 |
-43 |
-39 |
-75 |
-19 |
-4 bp |
225 |
| Pay CLPxCAM 5y |
5k USD |
15-Dec-16 |
3.78% |
3.62% |
4.25% |
2.97% |
-16 bp |
-92 |
| Pay CLPxCAM 3y |
6k USD |
16-Nov-16 |
3.69% |
3.24% |
4.00% |
2.97% |
-45 bp |
-266 |
FX
| Trade |
PV01 / Notional |
Entry Date |
Entry Level |
Current |
Target |
Stop |
P/L |
P/L (kUSD) |
| Sell 3m SGDCNH outright |
SGD 10m |
07-Feb-17 |
4.891 |
4.851 |
4.7 |
5 |
0.8% |
58 |
| Long USDARS 2y NDF vs. short USDARS 1y NDF |
USD 10mn |
20-Jan-17 |
22,000 |
26,076 |
27,500 |
17,500 |
2.55% |
255 |
| Short CLPCOP via 1m NDF |
USD 5mn |
29-Dec-16 |
4.516 |
4.516 |
4.245 |
4.696 |
0.71% |
35 |
| Short CADCOP via 1m NDF |
USD 7mn |
27-Oct-16 |
2,222 |
2,201 |
2,100 |
2,420 |
3.20% |
224 |
| Long BRL vs. basket (CLP, EUR & AUD) |
USD 10mn |
07-Jun-16 |
192.74/4.018/2.6285 |
206.87/3.295/2.3755 |
25.00% |
15.00% |
18.88% |
1888 |
Options
| Trade |
PV01 / Notional |
Entry Date |
Entry Level |
Current |
Target |
Stop |
P/L |
P/L (kUSD) |
| Buy at 13.25 1xUSDZAR 2m call k=13.75, sell 1.5xUSDZAR 2m call k=14.20 |
USD 10mn |
03-Feb-17 |
0.45% |
0.39% |
- |
- |
-0.06% |
-6 |
| Buy EURTRY 1m put at 4.01, sell put at 3.90 and call at 4.15 |
EUR 10mn |
03-Feb-17 |
0.00% |
1.75% |
- |
-1.50% |
1.75% |
186 |
| Buy 3m USDJPY / USDKRW dual digital (112 / 1200) |
USD500K payout |
13-Dec-16 |
9.00% |
6.00% |
- |
- |
-3.00% |
-15 |
| Long USDMXN PS k=20.55/19.75 / exp: 19 April 2017 |
USD 25mn |
31-Jan-17 |
1.33% |
1.59% |
- |
- |
0.26% |
65 |
| Buy 4m EURMXN digital put 19.80 |
EUR 1mn |
18-Oct-16 |
30.00% |
0.00% |
- |
- |
-30.00% |
-320 |
Credit
| Trade |
PV01 / Notional |
Entry Date |
Entry Level |
Current |
Target |
Stop |
P/L |
P/L (kUSD) |
| Switch from Saudi Arabia $'46s into Qatar $'46s |
5k USD |
01-Feb-17 |
-16 bp |
-15 bp |
-35 bp |
0 bp |
-1 bp |
-5 |
5. Summary of Key Forecasts
| Region |
Interest Rates (2017 End) |
Interest Rates (2018 End) |
FX (2017 End) |
FX (2018 End) |
| US |
3.5% |
4% |
6.95 |
7.01 |
| Eurozone |
1% |
1.60% |
7.06 |
7.09 |
6. What's Next Week?
- Asia: No changes to trade recommendations. Focus on China's CPI and Thailand's GDP. RMB expected to remain stable.
- CEEMEA: South Africa's budget and PPI data are key. USDZAR remains cheap. Polish unemployment data also expected.
- Latam: Brazil's CPI and rate cut expected. Mexico's policy minutes and Colombia's rate decision are in focus.
Conclusion
The document underscores the need for caution in EM credit markets due to rising yields and the potential for a correction. Asian currencies are expected to benefit from improved inflows and central bank policies, while China's monetary policy remains tight but with sufficient liquidity. The team recommends diversifying portfolios, considering EM corporates, and using options for downside protection.
