Emerging Markets Debt Daily
Road to Redemption Hits a Speed BumpNatalia Gurushina, Chief Economist, Emerging Markets Fixed Income StrategyJuly 12, 2021
Political developments weigh on bonds and currencies’ performance in South Africa and Brazil.
Brazil and South Africa’s local bonds outperformed the rest of J.P. Morgan’s GBI-EM constituencies by a wide margin in Q2 (see chart below). Both countries were the lead characters in the “Road to Redemption” story, and the plot revolved around the faster recovery and better than expected fiscal performance (plus some progress on the structural front). However, the mood seems to be more subdued these days - the South African rand’s underperformance in the morning trade (down by 146bps against the U.S. dollar, as of 10:20am ET according to Bloomberg LP) is a sign that the market sentiment became more volatile. The reason is that political subplots are moving to the forefront.
Brazil’s President Jair Bolsonaro is rapidly losing in the popularity contest – his disapproval is on the rise, and the majority of Brazilians are now saying that they would support his impeachment. Ex-President Luiz Inácio Lula da Silva (Lula) is leading in the election polls – 46% in the first round and 55% in the second round, according to some surveys – adding to concerns about a slide to populism after the elections, and causing some market participants to trim their long exposure to Brazil. This is one of the reason why the market expects the central bank to continue frontloading rate hikes – 100bps in August, 85bps in September and another 74bps in October – to build up defenses (real interest rates) against the backdrop of high inflation.
Reports about South Africa’s riots are quite disturbing – several people died – and President Cyril Ramaphosa will be addressing the nation today. The protests shows that political divisions within the society are quite deep – demonstrations started after the arrest of ex-President Jacob Zuma – and they are unlikely to disappear any time soon. From the market perspective, three things are worth mentioning. First, South Africa’s central bank is among the most credible in emerging markets (EM), and it will handle the situation in an orderly and orthodox manner (=no undue currency interventions, leading to the loss of reserves). Second, South Africa’s external balance is strong, and it will continue to benefit from the improving terms of trade. On the downside, the recovery is still fragile – and a combination of hard lockdowns and protests points to more near-term growth headwinds.
Charts at a Glance: Brazil and South Africa Outperformed GBI-EM Peers in Q2
Source: Bloomberg LP
PMI – Purchasing Managers’ Index: economic indicators derived from monthly surveys of private sector companies. A reading above 50 indicates expansion, and a reading below 50 indicates contraction; ISM – Institute for Supply Management PMI: ISM releases an index based on more than 400 purchasing and supply managers surveys; both in the manufacturing and non-manufacturing industries; CPI – Consumer Price Index: an index of the variation in prices paid by typical consumers for retail goods and other items; PPI – Producer Price Index: a family of indexes that measures the average change in selling prices received by domestic producers of goods and services over time; PCE inflation – Personal Consumption Expenditures Price Index: one measure of U.S. inflation, tracking the change in prices of goods and services purchased by consumers throughout the economy; MSCI – Morgan Stanley Capital International: an American provider of equity, fixed income, hedge fund stock market indexes, and equity portfolio analysis tools; VIX – CBOE Volatility Index: an index created by the Chicago Board Options Exchange (CBOE), which shows the market's expectation of 30-day volatility. It is constructed using the implied volatilities on S&P 500 index options.; GBI-EM – JP Morgan’s Government Bond Index – Emerging Markets: comprehensive emerging market debt benchmarks that track local currency bonds issued by Emerging market governments; EMBI – JP Morgan’s Emerging Market Bond Index: JP Morgan's index of dollar-denominated sovereign bonds issued by a selection of emerging market countries; EMBIG - JP Morgan’s Emerging Market Bond Index Global: tracks total returns for traded external debt instruments in emerging markets.
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