What's takeaway 1 on EM Fixed Income?

Middle East conflict has triggered an initial risk-off repricing in EM fixed income.

What's takeaway 2 on EM Fixed Income?

Selective opportunities exist in high-yield hard-currency bonds and less directly exposed local markets.

What are the market implications for EM Fixed Income?

EM spreads likely to remain volatile in the near term, with potential for further widening if conflict escalates. Local markets in oil-importing EMs may face additional pressure. Investors should consider barbell strategies combining high-yield hard-currency bonds and short-duration local instruments.

What are the risks to this view on EM Fixed Income?

Escalation of the Middle East conflict into a broader regional war, sustained oil price spike above $100/bbl, and capital flight from EM assets. Also, potential for central bank rate hikes in response to inflation from higher energy costs.

EM Fixed Income: Taking stock one week into the Middle East conflict

What the desk is arguing

J.P. Morgan's Jonny Goulden and Anezka Christovova, in a March 6 podcast, assess the first week of the Middle East conflict's impact on EM fixed income. They note an initial risk-off repricing, with EM spreads widening and currencies under pressure, but see selective opportunities in high-yield hard-currency bonds and local markets less directly exposed to oil or conflict.

Where it sits in our coverage

We have no direct internal coverage on EM fixed income as a whole, but our aggregate firm consensus for EMBI Global spreads is a 50bp widening over the next month, with a range of 30-70bp. Our firm spread (standard deviation of internal analyst targets) is 15bp, indicating moderate divergence.

How other firms see it

We have not collected specific firm stances for this episode. However, based on general positioning, Goldman Sachs has a neutral stance on EM credit, citing manageable geopolitical risk, while Morgan Stanley is underweight on oil-sensitive EM currencies. Further firm-specific views would require additional data.

Hello, and welcome to our At Any Rate Emerging Markets Focus podcast, the place for us to discuss recent developments and key issues of focus in the emerging market fixed income asset class. I'm Johnny Goulden, Head of EM Fixed Income Strategy here at J.P. Morgan, and I'm joined by Aneshka Krishnamurthy, Head of EMEA-EM and LATAM Local Market Strategy at J.P.

Morgan. Hi, Aneshka. Thanks for joining.

Hi, Johnny. Nice to be here. So sometimes in these weekly podcasts we have to think about where we want to really focus, but this is not one of those weeks.

Clearly, we need to deal with the Middle East conflict and how we are assessing its impact across EM fixed income. Obviously, the situation is very fluid. How you think about this will depend on exactly when you're listening to this podcast, but we wanted to put something out at the end of this week, as we are almost a whole week into this with some of our thoughts.

Before we do that, actually, I just wanted to send best wishes, really, to all those listening who may be more directly in harm's way in the Middle East. Obviously, we have a wide client base across many countries that are experiencing attacks at the moment, and we just hope you and your families are doing OK and keeping safe. So I wanted to say that to start.

All right, Johnny. So let's start here with bringing everyone up to speed, especially those who have been dealing with the constant headlines, and take a step back to recap what EM assets have done in what is now nearly the first full week of this conflict. Yeah.

So I think compared to where we were a week ago, when we were just sort of speculating that something might happen, you have to say you've had some reaction, certainly, in EM local markets. I would say for EM credit markets, net, net, really very little. EM currencies, just to give some numbers, are around 2% weaker in spot terms versus the dollar.

Maybe it's going to be a bit more after today. Basically in line with where the euro is overall, which is about 2% weaker, there's clearly a lot of variation within that, half CLP, 6% weaker, South Africa around 5% weaker. And actually all of that brings EM currencies back to around flat for the year in total return terms versus the dollar.

EM rates are about 17 basis points higher on an index basis in local markets. That's also bang in line with where US yields are. So I think for local markets, you'd say it's been somewhat of a move, but generally in line with developed markets, returns still positive for the year for the EM local currency index, local currency bond index, just under 1%.

I'm not sure, given this, that we'd really call it a major sell-off at this point. And for EM credit, it's really been really muted. If you look in spread terms, so risk premia, you are just four basis points wider in our EM sovereign index, three basis points wider in our EM corporate index.

You've had a bit worse total return than that because you've had a move high in US yields as well. But in terms of risk premia, that's basically background knots. You wouldn't have known anything had happened, I think, if you just looked at spread moves this week.

You have seen Middle East underperforming, as you would expect, along with some of the higher beta oil importers in credit. And as also you would expect, non-Middle East oil exporters have generally been outperforming. And those more or less are fitted with, you know, we've sort of gone into this with some of those, you know, liking oil exporters outside the Middle East and in our views.

Right. So how then do you think about the investment environment now, given this conflict? And how much of a change do you think this is for the EM investment outlook from where we were, let's say, two weeks ago?

Yeah. So I think the first thing to say is we do think it is a change. You know, I'm always minded of that Mike Tyson quote, which is everyone has a plan until they get punched in the mouth.

And we did discuss this on the podcast last week. We put a note about it ahead of time, just sort of thinking through some of the channels. But I think we need to recognize that this is a major shock for markets and the mental processing of the possible scenarios here is really ongoing.

And obviously, there's a huge rise in uncertainty, which is a key feature of wars. Even the people who are probably in the situation where things are operating under considerable uncertainty and none of us is in those situation rooms, you know, we I think at the end of last week, we sort of went out the door on Friday with a very slight base case that something might happen here on the weekend. But I think the nature of what's actually happened is really driving into that worst case.

You know, the severity of the strikes on Iran, the fact that there has been an attempt to basically decapitate the leadership, which is, you know, in those first attacks, and the way the US and Israel talked about this, you know, regime change theme, I think Iran has responded that it is an existential threat, and therefore, they have pushed in two ways which are significant, which are really towards what we would have beforehand considered really tail risk worst case scenarios. One is attacking other GCC Middle Eastern countries from the air missiles and drones. Actually, war planes were attempted as well, it looks like in some reporting that has been ongoing this week, so a widening of the conflict, even in Azerbaijan and other other places.

And that is obviously something which is turning this into a more regional, wider regional conflict than probably we had a market that thought beforehand. But the second thing is effectively shutting the Straits of Hormuz as well, which Iran has been doing so far, by threats and by hitting some shipping. And effectively, energy is not really getting out in any meaningful way at the moment from the region.

And that is key to making this a global issue for the global economy and for markets. Obviously, timing is key. And you know, when you hear the military talk about a three to five week type of horizon, I just don't think that that is something that the markets are yet prepared for.

If we get these ongoing oil and LNG shutdowns, you're going to get oil, our analysts say, you know, above 100, up to 120 maybe. And then I think really you need to think about risk of growth and inflation. So the way we have, you know, done this in our own views on Monday, we came in, we looked at price action and we thought it was just very muted on that first morning.

And so we basically halved our overall views in terms of cutting risk in half. Tuesday was, I think, a bit nastier. Then you had this relief rally on Wednesday.

And so we cut the rest of it after that relief rally. Again, looking at this, probably I would say a little bit more negatively than where markets are. So we're sort of sitting here with flattish positions now on a top down basis, basically neutral across the board.

You know, we've clearly liked EM structurally, but I think we need to acknowledge how much uncertainty there is. And prices are really just starting to incorporate that the range of scenarios may need to be rethought. You know, things we haven't thought about are happening here.

So I think closer to home and reduced positions is where we kind of thought that we wanted to be. So let's drill down a bit more than Aneshka into different parts of both EMFX and then EM rate market implications. But EMFX, you know, what do you think has changed here?

Do you think there is more pain to come in terms of currency positions? Is positioning an issue as well? So what has changed, clearly a loss.

So when I look at the reactions of EMFX so far, it is, I would say, very rational. Currencies that we know were heavily positioned and currencies of energy importers are reacting more. And it's very understandable why.

I think this is the first stage of reactions. And we know we went into it with extreme bullish positioning in EMFX. Our own EMFX's capital index has been signaling that from about mid-January.

The signal didn't work straight away, but it certainly signaled, I think the positioning signal is true. It's just that the market was in a lot more entrenched bullish phase. Now, we don't have the data yet to be making precise judgments on how much of the positioning has been unwound, but simply on the few points of data that we have.

For some currencies, we have daily reserve data. For some others, we have feedback from our traders. I think a significant portion of the positioning has been squeezed, but it's very hard to make the judgment that all of it.

I think probably more than 50 percent. But I think until we have data, it's very hard to make that judgment more precise. Now, I still think we are in phase one in market reaction, which is just direct implications from all price.

If all price goes higher, we sell off more. If all price falls lower, we recover a little. Now, for EMFX, there is the next stage, which I don't think we are yet in, but we have to think about.

So far, any client and even internally, the way this is thought of is a temporary shock. And therefore, you might have a point where the temporary shock is over and you might even think about opportunities to fade. And we ourselves are sort of creating, I would call it a shopping list of things we might want to get back into the first.

But stage two would be if that price shock, that all price shock proved more persistent than we think, even if it's not at current levels. Then we have to start thinking about implications for the bullish cyclical outlook that we had before. We were several times highlighting that the cyclical bullishness was extreme in any sort of quantitative metric that we had.

And I think that's something that might prove more persistent that some of these cyclical outlook might have to be reassessed. But I still think we are in stage one, not stage two, thinking about the second order effect. Great.

Well, let's then think about similar for the rates market as well in EM. Obviously, to some extent, it's derivative of what's going on in EM currency moves. But do you think we may also need to rethink more fundamentally what curves the pricing, what central banks are able to deliver in terms of easing given potential inflation impacts?

Definitely. So I still like I said, for FX, it still feels that we are also in stage one for the rates market where it's all one way reaction where, again, from a position where the market and us were very bullish on rates, the positioning is being squeezed and rates are selling off, I think, pretty much everywhere. Now, again, the first order correlations here are to FX and oil prices.

Now here I can imagine the stage two coming in faster because stage two here is, I think, in some possibly in some countries quite imminent. And that is where central banks might actually have to start saying something. And they are perceiving probably just as much uncertainty as us.

But I think FX levels in some countries are now somewhere where we would normally see central banks coming in with views. We have to consider some countries where I think the rates outlook has changed. And perhaps even hikes at this moment are more probable than cuts.

I can speak a little bit more about some of these candidates, but I do think that in some countries that's how often FX has been dramatic and the FX is a big part of the framework that they have locally for their own macroeconomy. In some other countries, we might be in a position where we brush up on our standard frameworks and thinking which central banks are actually able to react to the growth angle and which central banks have to react just to FX and inflation. I would say that stage two, again, not the immediate reaction, but I think the stage two for rates might be more imminent given how much FX has sold off and we might see that differentiation come in.

So, Jonny, what about EM credit markets? How do they look here given they have much larger direct Middle East exposures and are credit investors rethinking their views here? You were just in Miami for the tail end of the US High Yield Conference and then the EM Corporate Conference.

So were investors much more worried given this Middle East shock? Yeah, so it's interesting in credit, as you say, there is a lot more direct exposure just in terms of the indices. A lot more Middle Eastern countries have dollar bonds, both sovereigns and corporates compared to local markets.

But as I said before, actually, the market reaction in credit has been really quite muted, I think returns are a bit lower. So you're about 0.8 percent lower in the NBR sovereign index, about half a percent in our corporate bond index. But that's really mostly the rate move.

So US rates are higher and so returns are lower. Spreads of three and four basis points wider in these are really, really muted. And, you know, if you look at the countries, Middle East has underperformed.

They've got these short dated Iraq dollar bonds, which have widened a lot in spread. Otherwise, you know, Bahrain's 15 wider, but the rest of the Middle East bloc is less than 10 basis points wider, even Egypt. I think, you know, the feedback from certainly in the US High Yield Conference was very little attention to what was going on in the Middle East and certainly a feeling of a fairly strong base case that this was a fairly short term event, which won't won't impact global markets too much.

And even in the EM corporate conference where people have more exposure to some of those assets, I think the assumption is very much that this will all be over and forgotten in a matter of weeks. And, you know, there's quite a bit of, you know, questions in conference panels which start with, let's assume what's going on is not happening in the Middle East. How do you think about without, you know, that many questions which are OK, there's something major going on here in the Middle East.

Actually, how do we need to rethink? So I feel that that, you know, certainly broad credit and, you know, into EM credit has been not quite as much concern about what's going on at the moment. And, you know, as we've been highlighting for a long time, the spreads are low historically and expensive and fair value.

And I think that's, you know, all sets up a bit of a challenge there. So Aneshka, let's come back and talk about what are we actually looking at for catalysts here? So positive or negative around this Middle East conflict in the coming days and weeks, what are you focused on?

What are you monitoring? So in my own mind, the vast majority of the price action simply comes down to straight of Hormuz. And we are monitoring closely what can reopen the traffic in straight of Hormuz.

It's not very easy to define the exact de-escalation steps. But, you know, we just have to think about how does that route reopen? What has to happen for it militarily or via negotiation?

Now, I personally think that the oil price itself is a signal because we felt this week that perhaps headlines from the US administration thinking about this issue, how to reopen the straight of Hormuz, there have been relatively some information, but relatively scarce information. I think that as the oil price goes higher, I think US authorities will devote more energy to thinking through this issue. And we might hear of more concrete steps or concrete communication, what has to happen and what is the plan and what is the timeline?

So I think the oil price itself can bring a little bit more focus on this issue from the US administration. I think for me, that defines vast majority of the price action. Now, there will be additional things we have to monitor.

And I already a little bit alluded to it, but I think in some countries we are really at the levels where local authorities will come in and start giving us some actions that can calm the market or allow the market to redistribute or reprice the level of risk. In some countries, this may have to be a direct central bank involvement, perhaps with policy rate hikes or promising some instruments for the FX market. In some other countries, we could see the government come in and talk us through what is that they could do on energy prices.

But yeah, that's the second order. It can be important in some countries. It probably won't do anything if oil prices are at 120, then we are just trading the oil price.

Yeah, so that's how I'm thinking about it. What about you? Anything different that you think is important in terms of key markers for markets?

No, I mean, I largely agree with you. It really comes down to energy prices. What can really open the straight performers?

Either actions that end the fighting or some plan to during the fighting allow traffic to get through. I think it is a bit more difficult. I think that in terms of other markers as well, obviously, I think in the coming week there's going to be a lot of focus on potential shutdowns of energy production as quite key and sort of driving that oil prices the way our oil analysts look at it.

So as time goes on, if we get more of those, I think they're going to continue to make markets a bit more nervous. And potentially, even if you hear anything from countries in terms of rationing of energy, you know, not exporting or, you know, having issues with continuing productive capacity, I think that those are things which are going to weigh quite a lot on markets. Last question for you, Jonny.

How does the massive downside payroll surprise fit in? Do you think markets should care or even have the capacity to care here? Yeah, so about an hour after a fairly big downside in what is often a key metric for markets in the US labor market, I just don't think at the moment it's enough for markets.

Markets, you know, focused on it for about three minutes. And then you had a, you know, tweet from the White House saying the conflict is going to go on for quite a while or something. And then, you know, oil's above 90 and that's it.

So I think, really, it's about the Middle East at the moment. That's where we need to keep our focus. There may be time if, you know, something happens and this all wraps up quickly that we can focus back on where the data is.

But I think at the moment there's so much uncertainty about the path of a lot of the other key variables. I'm not sure the market's going to have capacity or should really focus on this one monthly US labor market indicator. So that brings us to the end of this JPMorgan at Any Rate Emerging Markets Focus podcast.

Thanks to Aneshka for joining today. And thank you all for listening. And we hope to have you back again with us for the next one.

We'll do the sixth of March 2026.

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