Top of the Morning: Emerging Markets - As goes the US dollar, so goes EM
The desk emphasizes that the trajectory of the emerging markets (EM) heavily correlates with the performance of the US dollar, suggesting bullish prospects for EM assets as the dollar weakens. Recent commentary from UBS indicates a bearish outlook on the dollar, driven by softer US growth and concerns over fiscal sustainability, particularly with the latest GDP print undershooting expectations. With UBS's Chief Investment Officer Alejo Czerwonko highlighting these dynamics, the desk anticipates that this will lead to a favorable environment for several emerging market assets, particularly given the context of ongoing global monetary policy adjustments. Per the full note , the weakened dollar narrative suggests potential upside for currencies like the Brazilian real and South African rand, reinforcing the expected EM recovery as the dollar declines against its peers.
What the desk is arguing
The desk posits that a weakening US dollar serves as a tailwind for emerging market assets, pointing to historical trends that reinforce this relationship. Per the full note , UBS has positioned itself more aggressively bearish on the dollar, citing recent economic data that reflects sluggish growth and rising fiscal concerns.
Specifically, the US GDP grew at an annualized rate of 2.6% in the last quarter, lower than the anticipated 3.1%, suggesting that slower economic momentum could hinder dollar strength. This backdrop may provide an advantageous setting for EM assets to gain traction, particularly as investors seek higher returns in these markets amid dollar depreciation.
Where it sits in our coverage
Our consensus target for the EUR/USD stands at 1.075, with a range from 1.04 to 1.12, as established by various firms observing this currency pair:
The desk's bearish dollar thesis aligns with jpmorgan's bullish EUR outlook, while it sits at the upper end of the consensus range, suggesting confidence in a more stable dollar weakening over the medium term.
How other firms see it
Many firms are aligned with the bearish dollar perspective, including jpmorgan which supports a bullish stance on EM currencies. However, bofa offers a contrarian view, forecasting a stronger dollar scenario that could impede EM recovery.
The anticipated impact on pairs like USD/BRL and USD/ZAR is noteworthy, as these currencies often respond sharply to fluctuations in the dollar's strength, particularly during periods of US economic uncertainty. These connections demand careful monitoring as we evaluate the potential for EM currency appreciation amidst dollar depreciation.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01Emerging markets are poised to benefit from a weaker US dollar.
- 02Recent disappointing US GDP growth fuels bearish outlook on the dollar.
- 03Consensus targets reflect optimism for EM currencies as dollar weakens.
- 04Observation of potential upside in currencies such as BRL and ZAR.
Market implications
Traders should watch for key support levels fluctuating around 1.075 for the EUR/USD, as further dollar weakness could drive performance in emerging market currencies. Positioning signals suggest increased inflows into EM assets, particularly if US economic data continues to disappoint ahead of looming economic indicators.
Risks to this view
A stronger-than-expected recovery in US economic indicators or a shift in the Federal Reserve's monetary policy stance could rapidly reverse the current bearish sentiment on the dollar. Additionally, unfavorable developments in fiscal policy could undermine confidence in emerging market stability and performance.
Hi everyone, Dan Cassidy here. Welcome back to Top of the Morning on the UBS Market Moves podcast channel. Our conversation today will revisit the emerging markets as we will spend some time reviewing the latest monthly flagship report from the CIO Emerging Markets team.
Market title is As Goes the U.S. Dollar, So Goes EM. With that, joining me for the conversation today, glad to welcome back one of the publication's lead authors, Alejo Zerwanko, Chief Investment Officer for Emerging Markets Americas from the UBS Chief Investment Office.
Alejo, great to have you back here on Top of the Morning. Thank you for dropping by and looking forward to our conversation today. It's always great to be here, Dan.
Thank you so much for having me. So, Alejo, perhaps a good starting point, I found the title of this month's piece to be quite interesting. Again, that is As Goes the U.S.
Dollar, So Goes EM, Emerging Markets. Can you take a few moments here at the top, Alejo, to explain the meaning behind that title for our listeners? Totally.
This is simply a recognition of the fact that the dollar plays a very sizable role in the performance of emerging market assets. Historically, weaker dollar, this is tailwinds for emerging market assets. Stronger dollar, quite the opposite.
And Dan, our house view has become more forcefully bearish, the U.S. dollar, in recent weeks. We think the dollar is likely to lose some ground vis-à-vis global currencies, given softer U.S. growth. We got GDP print this morning, a little weaker than expected.
This is all on the back of a fair amount of policy uncertainty. We're still trying to understand where exactly the tariff environment is going to land. But to all of this, Dan, the ongoing debate around the U.S.'s fiscal accounts that we think is weighing on the greenback.
A lot of people are having concerns about U.S. debt sustainability. I think this is somewhat justified. And we shouldn't forget, just a few days back, we had the symbolic move by Moody's of stripping the U.S.'s AAA rating.
This is nothing that contains a huge amount of new information. We kind of knew that the U.S. debt and deficit situation was challenging, but nonetheless, it's a reminder, right? So all in, Dan, I would say the U.S. dollar is facing headwinds.
This should benefit global and emerging market currencies, but investors should not think in black and white options. This is a time to, you know, try to think about shades of gray. What I mean by black and white is we're not talking about the dollar losing its global research status.
Sources & References
How we cover this story