In a recent surge of optimism, global investors are eyeing what they consider a “once-in-a-generation” opportunity in emerging market bonds, particularly in Latin America. The catalyst behind this renewed interest is the anticipation that the Federal Reserve is on the brink of cutting interest rates. With a weaker dollar also in the mix, traders are optimistic that central bankers in emerging markets will be prompted to ease monetary policy, potentially leading to significant gains for local-currency debt holders.
The sentiment is echoed by major investment firms like Grantham Mayo Van Otterloo & Co. (GMO), Neuberger Berman, Vontobel Asset Management, and JPMorgan Chase & Co., all pointing to early 2024 as a crucial moment for this asset class. Despite certain emerging markets being ahead in their monetary cycles, the expectation of a Fed pivot creates an environment where further easing becomes a possibility.
JPMorgan strategists highlight the favorable conditions for local bonds, emphasizing that even though emerging assets are facing challenges in early 2024, the case for local bonds remains strong. The potential decline in the greenback, coupled with the Federal Reserve’s move towards lowering borrowing costs, creates a unique opportunity for traders.
Market indicators, such as developing currencies and local government bonds, have faced early-year declines due to uncertainties about China’s economy and shifting expectations regarding Fed rate cuts. However, seasoned investors, like GMO’s Victoria Courmes, view this as an attractive entry point.
Even Wall Street bears are adjusting their positions, reducing short bets on local-currency funds to the lowest in more than four years. The VanEck Morgan EM Local Currency Bond exchange-traded fund reflects this trend, with outstanding bearish positions at their lowest since October 2019.
Latin America emerges as a sweet spot for investors, with countries like Brazil, Chile, Colombia, and Peru already making moves to trim rates. Expected rate cuts from these nations in the coming days further enhance the appeal of local-currency bonds. Even Mexico, with its historically high rate, signals potential cuts in the near future.
Carlos de Sousa, a portfolio manager at Vontobel Asset Management AG, emphasizes that Latin America, especially Brazil and Mexico, remains the most attractive region for local-currency bonds. The prospect of Fed rate cuts is anticipated to encourage even more hawkish central banks, like Mexico’s, to follow suit, making it a potentially lucrative year for investors.
Beyond Latin America, improving economic conditions and policies in countries like Turkey are also drawing investor attention. Claudia Calich, the head of emerging-market debt at M&G Investments, notes the recent adoption of monetary orthodoxy in local markets, leading to increased investor exposure.
In summary, the convergence of a potential Fed pivot, a weaker dollar, and favorable economic conditions in emerging markets creates a compelling narrative for investors eyeing a strategic entry into local-currency bonds, positioning 2024 as a significant turning point for this asset class.
