Expectations for Early Fed Rate Cuts
Emerging Market Central Banks May Also Cut Rates
Betting on Rising Emerging Market Bond Prices
Interest in Latin America Bonds
Wall Street is currently showing more interest in emerging market bond investments than ever before. This is the result of betting that the U.S. Federal Reserve (Fed) will implement interest rate cuts earlier than expected. In particular, attention is focused on bonds from Latin American countries, which had pursued the most aggressive rate hikes in the world due to steep inflation.
On the 28th (local time), Bloomberg reported that short positions on the 'VanEck J.P. Morgan EM Local Currency Bond ETF (EMLC),' analyzed by financial information analytics firm S3 Partners, stood at 0.69% as of the 25th. This is the lowest level since October 2019. In March last year, short positions on EMLC nearly reached 15%.
EMLC is an ETF that focuses on bonds from emerging countries such as Brazil, Indonesia, Mexico, and Thailand. This indicates that many institutional investors expect emerging market bond yields to decline in the future, which would cause prices to rise.
This is interpreted as a result of growing expectations for a Fed pivot (direction change). If this happens, a weaker dollar could encourage emerging market central banks to ease their benchmark interest rates. U.S. investment management firm GMO described investing in emerging market bonds as a "once-in-a-generation opportunity" in a memo.
However, in the short term, attention should be focused on the first Federal Open Market Committee (FOMC) meeting of the year, scheduled for the 30th-31st. Victoria Commerce, a fund manager at GMO, evaluated, "Hints about when the easing cycle will begin in the U.S. could act as a catalyst that drives dollar weakness and strong performance in emerging market bonds."
Wall Street experts are closely watching Latin America among emerging market bonds. Brazil and Mexico are representative examples.
Brazil is the country that raised interest rates the most worldwide after COVID-19. From March 2021 to August 2022, it raised the Selic rate (Brazil’s benchmark interest rate) 12 consecutive times (a total of 11.75 percentage points), reaching as high as 13.75%, before easing to the current 11.75%. However, since rates remain high, there is a strong possibility of further rate cuts. Mexico, which has kept its benchmark rate at 11.25% for six consecutive meetings, is also signaling rate cuts this year. According to investment bank Citigroup, many analysts believe the Bank of Mexico is likely to start cutting rates by 0.25 percentage points in March.
Carlos de Sousa, portfolio manager at Swiss asset management firm Bontobel Asset, said, "Latin America remains the most attractive region among local currency bonds."
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