At the Federal Reserve’s annual economic policy symposium this week, Fed chair Jerome Powell is also expected to talk about continuing trade issues, especially between the United States and China, and the impact they might have on the future monetary policy. We’ll look at this in more detail in the next part of this series.
Health of emerging markets
Another issue that has recently gained importance is the health of emerging markets (EEM), especially after the Turkey crisis had the makings of a contagion. As the US dollar (UUP) strengthens and interest rates rise, the cost of servicing US debt for other countries goes up. That could cause financial instability in those countries.
The currencies of countries such as India (INDA), Brazil, and South Africa were especially hit hard. The impacted countries could try to monetize the US dollar reserves to support their currencies. Equity investors are pulling money out of emerging markets into the United States.
Fed’s approach and emerging markets
According to the latest Bank of America Merrill Lynch Survey conducted between August 3 and August 9, fund managers remained 1% net underweight on emerging markets in August. However, that was before the Turkey implosion began. Short emerging markets were the second-most crowded trade.
The MSCI benchmark emerging-markets stocks index is down ~21% from its peak in January. Political and economic concerns in many emerging market countries, including Brazil, Argentina, and Turkey (TUR), and trade war concerns between the United States (SPY) (VTI) and China (MCHI) have impacted their currencies negatively.
It would be interesting to see the Fed’s approach to its own policy and its impact on emerging markets. But the market is not expecting the Fed to relent on another rate hike in September unless global economic conditions worsen considerably.