Executive Summary
In last quarter’s publication we highlighted significant value in emerging external debt, with local debt markets looking to be on the attractive end of a neutral zone. As it happened, the EMBIG hard currency index rose 6.6% for the quarter and the GBI-EMGD local benchmark returned 2.9%. Three themes for the quarter are worth highlighting: 1) the markets have effectively established that the Fed has turned dovish and the hiking cycle is temporarily or permanently stalled; 2) trade tensions moderated with a postponement of U.S. tariffs on China, as talks proceeded; and 3) global economic growth forecasts have been revised down, for both developed and emerging economies. Rightly or wrongly, the market placed relatively more importance on the first two than the third.
As we enter the second quarter, our valuation metrics for emerging external debt are less compelling than they were at the beginning of the year, due to the rally. The asset class looks to be on the cusp of neutral to cheap. This is also how we would currently describe local market emerging debt. Emerging currencies remain at the cheap end of our neutral range. As for local rates, first quarter moves resulted in increased attractiveness of emerging. Emerging real yields rose as a result of inflation moderation, while G-3 real yields fell. Thus, the EM-DM real yield differential moved in favor of emerging, now standing at around 200 bps.
In this piece, we update our valuation charts, and provide our readers with some small changes in methodology that we have adopted (See the Appendix for more detail).
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