Volatility in high-risk, high-return emerging market currencies is set to persist amid fears of a “taper tantrum” once the U.S. Federal Reserve starts cutting its bond-buying, according to analysts who say a sell-off is likely in the next three months.
Reuters poll said recent dollar weakness would be temporary as the day the Fed eventually decides to taper its $120 billion of monthly purchases approaches, likely pushing U.S. yields higher.
High-beta currencies – those with the most risk but also offers the greatest potential for returns such as the Brazilian real and South African rand – are set to drive overall currency volatility over the next 12 months.
While the Fed is not expected to shift gears for another few months, any move by markets to price in a more hawkish stance could weigh on high-beta, CEE, and commodity FX, but less so on EM Asia FX, Barclays strategists wrote in a note.
Most emerging market currencies were forecast to weaken or at best cling to a range over the six months as U.S. stimulus withdrawal could push investors to shun the currencies coined the “fragile five” as they did in 2013.
These include the currencies of Brazil, India, Indonesia, Turkey, and South Africa.
However, the real has benefited from 325 basis points of interest rate hikes last year compared with none for the rand, though Brazil’s economy shrank slightly in Q2.
Subbaraman said the prospect of the Fed normalizing monetary policy amid China’s slowing economic growth was a “dreadful” combination for EM, only to be made worse.
USD/BRL Long (Buy)
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