EM Rally has Legs Thanks to Cur­rency War Truce

EX­PERT OPINION Jefferies chief mar­ket strate­gist ready to shift as­sets to ETFs track­ing EMs

The Economic Times - - Commodities Plus -

Luke Kawa

New York: You can count Jefferies Chief Mar­ket Strate­gist David Zer­vos among the in­vestors who thinks this emerg­ing mar­ket rally has legs.

A cau­tious Fed, a re­bound in oil prices, strong in­flows, and coun­try-spe­cific fac­tors like Brazil’s seem­ing move to stamp out cor­rup­tion, helped the MSCI Emerg­ing Mar­kets Index out­per­form its all­world coun­ter­part and the S&P 500 in the first quar­ter of 2016.

In a note to clients, Zer­vos an­nounced that he was tak­ing prof­its in his “Spoos and Blues” trade (long US eq­uity futures and Eurodol­lars) and de­ploy­ing some of those pro­ceeds in call op­tions for the ex­change-traded fund that tracks the MSCI Emerg­ing Mar­kets Index. This marks a shift for the strate­gist, who has not rec­om­mended emerg­ing mar­ket as­sets while at Jefferies, sug­gest­ing that the re­fla­tion­ary mone­tary poli­cies pur­sued by the Fed­eral Re­serve, Bank of Ja­pan, and Euro­pean Cen­tral Bank would ham­per growth in de­vel­op­ing coun­tries. What changed his mind? A show of sup­posed co­or­di­na­tion by these same cen- tral bankers in the first quar­ter—the BoJ and ECB seem­ingly pri­or­i­tiz­ing credit cre­ation over cur­rency de­pre­ci­a­tion, and the Fed’s con­cern over the lofty green­back—that prompted some an­a­lysts, in­clud­ing Zer­vos, to con­clude that some form of Plaza Ac­cord 2.0 had been reached at the Group of 20 meet­ing in Shang­hai.

“If the con­cept of a truce in the de­vel­oped mar­ket cur­rency war is for real (as I have been ar­gu­ing since19-Feb-2016), then the big­gest ben­e­fi­ciary will be emerg­ing mar­kets,” he ex­plained.

“The worst thing for emerg­ing mar­kets would be USDJPY at 140, EURUSD at 90 and the DXY at 120. The Euro­peans and Ja­panese would be steal­ing EM growth, and the US would be forc­ing all the USD li­a­bil­i­ties in EM cap­i­tal mar­kets to rise in value — a toxic com­bi­na­tion.” In­stead, G3 cen­tral banks have brought re­turned sta­bil­ity to emerg­ing mar­kets and eq­uity mar­kets more broadly. In the process, im­plied eq­uity volatil­ity has col­lapsed, which makes buy­ing call op­tions for the emerg­ing mar­kets and S&P 500 ex­change-traded funds par­tic­u­larly at­trac­tive, ac­cord­ing to Zer­vos. — Bloomberg


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