More trouble ahead for erratic emerging market currencies

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U.S. dollars and other world currencies lie in a charity receptacle at Pearson international airport in Toronto, Ontario, Canada June 13, 2018. REUTERS/Chris Helgren
U.S. dollars and other world currencies lie in a charity receptacle at Pearson international airport in Toronto, Ontario, Canada June 13, 2018. REUTERS/Chris Helgren

Emerging market currencies are headed for more trouble next year as mounting expectations the U.S. Federal Reserve will raise interest rates to quell inflation are set to keep the U.S. dollar in the driving seat.

According to a Reuters poll, Most emerging market currencies were forecast to weaken or at best cling to a range over the year as currency strategists in the October 29-November 2 fearing high commodity prices would further pressure economies already struggling with elevated inflation.

Higher U.S. Treasury yields are becoming a stronger headwind for EM currencies, as investors bet elevated U.S. inflation could lead the Fed to tighten policy sooner than signalled.

“For EM currencies, the worst is not yet behind us, as growth and inflation challenges persist into 2022, while U.S. 10-year Treasury yields are anticipated to march relentlessly higher through next year,” noted Phoenix Kalen, head of emerging markets research at Societe Generale.

But a lot will depend on how the U.S. dollar performs. The greenback was expected to dominate currency markets for another year as inflation concerns come to the fore, with surging energy prices amid a supply crunch threatening global economic growth.

“A pro-USD environment in G10 FX may continue to pose a threat to EMFX,” Luis Costa, emerging markets strategist at Citi, wrote in a research note.

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