A very strong start to the year for EM FI
Emerging markets fixed income (EM FI) saw strong performance during 1Q. Sovereign and corporate credit delivered positive returns reflecting a significant tightening of spreads and a significant rally in UST yields. Local EM also delivered positive returns as FX and yields rallied almost everywhere.
Dovish global monetary policies helped
During 1Q the FED made a 180º turn on its communicated intentions to continue normalizing monetary conditions. The FED opted to not hike rates, lowered its own expectations of future rate hikes to one hike in 2020. As the quarter progressed, markets stopped pricing hikes in 2019. Furthermore, the UST yield curve inverted, bringing back fears that a recession was near. ECB and BOJ were consistent in keeping their accommodative monetary stance.
It is too cold in the world now
We started the year with a constructive stance based on cheap valuations across the board and a not-too-cold-not-too-hot baseline scenario when it comes to the global economy.
Our optimistic views were based on the following main pillars:
- Trade wars subside
We still believe that there are enough incentives for both the US and China to reach an agreement given the macroeconomic and financial costs that both parties may endure in the case of an escalation. However, we also acknowledge that negotiations are likely to be tough and that further delays are possible.
- Growth in the developed world stabilizes
Regarding the second condition, US growth slowed down as expected but European growth slowed down a lot faster than expected. This growth dynamic has had a negative impact on the Euro, limiting the expected strengthening versus the USD in 1Q.
- Commodity prices recover and stabilize
The outlook for 2Q depends on the interplay between the supportive global factors (with tail risks), and persistent political noise and/or fundamental imbalances in virtually all major EM countries. This environment warrants a positive, but cautious bias, in EM currencies and higher-yield rates for 2Q. The main risks to the outlook are stemming from weak global growth and a flaring up of political risk in EM