EM Fixed Income: Taking stock amid some market consolidation

Anezka Christovova (0:03)

Hello, and welcome to our At Any Rate, Emerging Markets Focus Podcast, a place for us to discuss recent developments and key issues of focus in the emerging market fixing come as a class.

I'm Anezka Christovova, head of EMEA EM and LATAM Local Market Strategy here at JPMorgan, and I'm joined by Ben Ramsey, head of EM Sovereign Credit Strategy, and Gisela Brant, our Senior LATAM Rate Strategist, both at JPMorgan. And Gisela, thanks for joining.

Gisela Brant (0:29)

Thank you.

Ben Ramsey (0:31)

Hi, Anezka.

Anezka Christovova (0:32)

So it looks like the market has reached some sort of a bottom around the start of October, and we have had a bit of consolidation since then.

With the GPIEM Local Markets Index recovering about 1.3% since the start of October. Now, Brazil's first round of election has suddenly contributed to that, and we will be talking about that particular idea of think-radic story on this podcast a little later.

Something interesting in the performance so far in October is the different mix of performances contributing to the recovery between FX and local rates. Here today, it's been primarily at the FX market that has been driving returns. And perhaps since the start of October, this looks a bit more balanced. Currencies have stabilized and recovered a little, with the GBIM FX index delivering about 0.4 positive contribution. But the recovery has been slightly larger in rates. So GBIM over yields are down about 11 basis points. Most local rates markets have rallied with a flattening bias. Now, while there has been some consolidation in the market, it's certainly worth acknowledging that the general macro and geopolitical uncertainty is still rather elicited. And we will be dwelling into some of that in this podcast.

Ben Ramsey (2:05)

So, Anezka, from what we discussed last week on this podcast, what do you think are the new elements that the market has to contend with? And is any of that changing your biases regarding trade recommendations?

Anezka Christovova (2:19)

Right. So, obviously a lot is happening, but I think two developments stand out to me that I will mention today. They're obviously not exhaustive. There's a lot more going on.

The first one is that we raised about a month ago this idea that the reflectionary backdrop, that growth can stay very strong despite the increases in yields. We raised the idea that that sort of balance is fully priced and maybe unsustainable in the near term. And what stands out to me over the past week is that perhaps that idea that the core yields or generally the central bank heightening, if you price more in heightening, it's starting to have more impact on some of the perceptions of growth or some of the performances of the markets that rely on growth.

I increasingly see that dynamic emerging in our economist writing, warning that some of the consumer spending might be more impacted, although there's still a lot of strength on the industrial production side. We've also noticed that this week we had a very strong CPI report in the US. And the price action was really telling on that day, where the sell-off was largely reversed, where US interest rate strategists pointed to some of the, what Fed was saying at the IMF meetings, but certainly they also pointed out to the Equity Market Price Act and kind of cross-impacted, cross-impacting on US rates.

We are seeing similar discussions happening in other markets as well, and some of the equity indices that VJP. Morgan produced that, for instance, monitors that quite a risk. They've been rising over October. So one thing I would mention is that this idea that yields can start to have a more impact on growth, I think over the past week, I think that's becoming more evident in the price action. The second thing I would mention is the energy prices. That's, I think what we are now seeing is a lot more negative news flow from the Middle East regarding the amount of ships that are being hit, concerns on whether the flow in the trade can be sustained. But what particularly made an impression on me is a piece from our commodity research late last week that highlighted the all-in-cost for moving oil.

When we look at brand prices, it's long been our view that actually oil prices are not high in real terms. They really are not. If you look at just the oil price in its own right, and you use any real adjustments or you look at it at real levels, it's not high, it's about 2017, 2018 levels, which were not a bad period in growth in general. We did not think oil prices were particularly a problem back then. But if you look at oil costs with transport, which is the new information that's transpiring over the past week, we are actually looking at oil costs 130, 140 per barrel. That in real terms is actually the levels we previously thought at the start of the conflict. That's the levels we should start to get a bit more worried about the growth impact. Letting these two developments stand out to me. Now in terms of how does that change our biases, the first thing I would say is that the uncertainty, it feels to us that the macro scenarios have opened up a lot more. There is a general more macro uncertainty and that requires narrower portfolio picks, basically a little bit more focus on higher conviction trades, higher conviction trades, idiosyncratic trades. I think that's definitely one conclusion. The second one is that in that world where you are a little bit more concerned about a growth distribution, we think it's worth narrowing the portfolio to the stronger, higher carry candidates. Finally, we also, what we have argued is perhaps this limit on terminal rate pricing could come through in some countries via switching the buy from payers to receivers. Now, let me move on to credit and to you, Ben. So I actually won't ask you a top down question because we have been discussing the top down outlook for credit quite extensively on this podcast. But I have for you a bit more technical and idiosyncratic questions. So first the technical one. I have noted a common theme in your recent trade recommendation that is a flattening bias in EM sovereign curves. Would you be able to talk us through this theme?