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EM Strategy Summary - Global Weekly (15 June 2018)

Core Content

This document outlines the current and upcoming outlook for Emerging Market (EM) strategies across Asia, CEEMEA, and Latin America (Latam), focusing on interest rates, foreign exchange (FX), and portfolio flows. It is produced by the EM Strategy Team of BNP Paribas, including contributions from various regional strategists.

Main Themes and Recommendations

China: Life without leverage

• The People's Bank of China (PBoC) is becoming more prudent as the de-pegging of leverage from the real economy continues.
• Recommendation: Receive CNY 5y repo NDIRS at 3.60%, with a target of 3.40% and a stop-loss at 3.70%.
• Total social financing (TSF) has decelerated, indicating a shift from a credit cycle to a more balanced economic environment.
• The real economy is showing resilience with PMI and PPI data improving, and real estate investment growth remaining strong.
• The PBoC is expected to let long-end rates rise and continue with the de-leveraging plan.
• The document suggests that the upside potential of the interest rate swap (IRS) curve is limited, and the 3.75% level may not be reached.

CEEMEA: CLEER™ signs of undervaluation

• BNP Paribas CLEER™ model indicates that end-2018 forwards for TRY, CZK, PLN, HUF, and RUB are undervalued, while ZAR is overvalued.
• Key Points:
  • USDTRY has risen sharply in May, deviating further from fair value, and is expected to weaken further.
  • EURCZK has risen above fair value and is expected to revert to the Czech National Bank (CNB) forecast.
  • EURHUF and EURPLN have also moved above fair value due to policy divergence and inflationary pressures.
  • The ZAR is expected to weaken in both 2018 and 2019, with fair value at 14.0 by the end of 2018 and 14.8 by 2019.
  • The CLEER™ model is used to estimate fair value based on macroeconomic fundamentals and is typically predictive over 6-24 months.

South Africa: Still cold outside the ANC

• Internal troubles within the ANC in KwaZulu-Natal are unlikely to seriously damage the ruling party.
• Jacob Zuma's legal issues are not expected to lead to a breakaway party or a leadership challenge.
• The ANC is expected to remain cohesive, and Zuma's supporters are likely to align with the new leadership by 2019.
• The rand is seen as undervalued relative to its CLEER™ fair value, and the central bank (SARB) is expected to remain accommodative.
• The current account deficit is expected to widen to 3.7% of GDP in Q1 2018.

EM Portfolio Flow Model: The worst is over

• Portfolio flows to EM were almost flat in April but saw USD 12.3bn in outflows in May, resulting in a three-month cumulative flow of USD 6.4bn.
• The model suggests that EM portfolio flows are expected to turn positive again, with a projection of up to USD 50.2bn in the next three months.
• The model considers external variables such as the global risk premium, US dollar balance sheet changes, and the USD Trade Weighted Index.
• The team is constructive on Brazil and Mexico rates and Colombia FX in the short-term, and has taken profit on the ARS short position.

Key Information

• New Recommendations:
  • Receive 5y CNY repo NDIRS at 3.60%, target at 3.40%, stop at 3.70%.
• Trade Review:
  • Interest Rates: 1y5y TRY xcy steeperer starting 1m fwd, Receive 1y1y KRW NDIRS, Receive USDCNH CCS 1y1y, Receive 5y CNY repo NDIRS.
  • FX: Long USDARS via 1m NDF, Short USDCOP via 3m NDF, Short USDOPEN via 3m NDF, Long BRL against a basket (CLP, EUR & AUD) via 1m NDF.
  • Options: Buy USDINR 1m 1X2 put spread, Long USDBRL OT, Long USDBRL CS.
• Profit Taking:
  • The team is taking profit on the long 1m USDARS NDF position at 28.40.
• Market Outlook:
  • The EM portfolio flow model indicates a return to positive flows.
  • The team remains bearish on the ARS, but believes the recent depreciation has been too rapid.
  • The DI curve in Brazil is seen as offering opportunities despite the political and economic risks.

Upcoming Events

• Asia:
  • Central banks of Thailand and Philippines will hold policy meetings on 20 June.
  • Inflation data for Malaysia and non-oil domestic exports for Singapore will be released.
  • OPEC meeting on 22 June may influence EM risk sentiment.
• CEEMEA:
  • Hungary's MNB will hold a policy meeting on 19 June and publish an inflation report.
  • The ZAR is expected to weaken further in 2018 and 2019.
  • The RUB is expected to rise to 61.0 and 64.0 by 2018 and 2019, respectively.
• Latam:
  • Brazil's BCB is expected to keep policy on hold.
  • Mexico's Banxico may hike rates on 21 June and maintain a hawkish tone.

Conclusion

The EM Strategy Team remains cautiously optimistic about the outlook for EM assets, with a focus on strategic trades and positioning based on macroeconomic fundamentals and market sentiment. The team is recommending a mix of receiving and paying instruments, with a particular emphasis on capitalizing on undervalued currencies and the potential for positive portfolio flows.