Should the emerging markets be afraid of US dollar and interest rates?
The strength of emerging markets has been so far the low-interest rates of US and Europe, investors in order to increase the portfolio return, bought emerging market bonds which have higher interest rates, thanks to that these countries have seen a big money inflow.
Both shareholders and debt holders benefited by this situation, but now the things are changing.
According to Bloomberg, the probability that Fed is going to increase US rates at least within September achieved 56%.
On May 2013 when Ben Bernanke announced the Fed would gradually end its stimulus program EM equities lost about 16% in six weeks.
If investors expect the Fed to raise the rates they will move gradually capital from high-risk EM to US bonds.
By the point of view of investment opportunities, the emerging market stocks are relatively cheap compared to their U.S. counterparts, but the currency loss scares away foreign investors. When they want to convert their profits back into dollars, an eroding currency slashes off some or all of the gains.
When the dollar strengthens, money typically flows to America and out of emerging economies, says Sean Lynch, co-head of global equity strategy at Wells Fargo.
But the power of the dollar could create surely more problem for investors and even more for governs.
The most world debt part is denominated in $, but the currency for pay back debts are not in $ and therefore the cost of exposure increased, it takes more local currency for buy dollar and repay capital plus interest.
Strong dollar means troubles are coming, also for US economy, S&P 500 index includes company which profits comes from selling to foreign countries for an amount of about 40%, they won’t be able to provide the same level of selling if their price are higher in respect other nations.
For countries like Europe or Japan isn’t a problem but a benefit, but for EM is different, that could impact on local currencies of emerging countries and cause an inspected inflation.
Andrea Megliani
moreinfothangod.wordpress.com 