Emerging markets are under pressure again and it looks like the respite that accompanied the dollar’s mid-August breather might be history.
The greenback is up for a fourth consecutive day while the MSCI EM FX index is now sitting at its lowest levels since May of last year.
Tuesday’s EM malaise is at least in part attributable to news that South Africa has fallen into a recession for the first time since 2009. That’s just about the last thing ZAR needed right about now.
As far as the dollar itself is concerned, there’s just not much in the way of compelling evidence when it comes to explaining why it should weaken. Here’s an anecdote from SocGen’s Kit Juckes:
When I was young, I really, really wanted to be good at tennis. Of course, it never happened but one of the best pieces of advice I was given was that to win, you need to avoid losing more than you need to win. If you always get the ball back in court, you’re going to win the point in the end and until you reach elite level, your opponent is unlikely to make you pay for this cautious (boring) approach. In FX too, the ‘winner’ is the currency that doesn’t lose. And right now, that’s still the dollar. there’s not much to make me think the dollar should be going up, but there’s plenty to make me nervous about other currencies.
And see, therein lies the problem when it comes to hoping for dollar weakness in the interest of buoying EM sentiment. “Because it would help stabilize ex-U.S. assets” isn’t really a good excuse for the dollar to sustain a pullback. In fact, there’s a sense in which that only prompts folks to sell the assets a weaker dollar would help – that is, if you know what you’re holding needs an S.O.S. in the form a weaker USD, would you rather wait around and hope that Trump jawbones the greenback lower and/or bet on a dovish lean from Powell, or would you rather just go the path of least resistance and get out of dodge?
In any event, this is probably going to be bad news for emerging market equities. The correlation between the dollar index and EEM is the most negative it’s been since at least early 2016.