Investors flock back to local currency paper, but QE risks hover
As investors return to LatAm local currency debt after the mid-year selloff, the risk remains that prices will fall when the US quantitative easing ends
Despite local currency debt suffering from
a repricing of emerging market risk earlier this year,
investors are piling back in — and the market could be
headed for another sharp adjustment, say some.
A surge of interest in Latin American
local currency at the beginning of the year abruptly reversed
in May when US Federal Reserve head Ben Bernanke raised the
possibility of ending quantitative easing. Some local currency
instruments were repriced, although now that is reversing as
investors spot a buying opportunity.
"Since September, investors have moved
back into EM bonds and currencies, following the delay in the
tapering," says Gordian Kemen, head of LatAm fixed income
research at HSBC. "There may be a new layer of froth forming
that can be taken out, of people that are using what could be a
short term window for risk-taking."
Edwin Gutierrez, portfolio manager at
Aberdeen Asset Management, which manages $312 billion, says
that although the sell-off provided an opportunity to
recalibrate a portfolio that may have been light on local
currency debt, the extent of the renewed enthusiasm is
"I’m always afraid when you
get this coalescence around one view," he says.
"It’s rally on. Guys are in position for it, guys
are chasing the market. That’s the consensus view
— so that’s what concerns me."
Others are more bullish on the asset
Carlos García Moreno, chief
financial officer at América Móvil, says he
expects to be able to reopen the firm’s
global-local instruments known as títulos de
crédito extranjero before year-end — and
that an extraordinary series of events in the market should not
be taken as an indication of the longer term outlook.
"These are not regular events," he says.
"They were quite exceptional."
"Rates in April were at 1.6% to 1.7%
— they went to nearly 3% when the market was expecting
the news of the tapering. A significant part of the adjustment
has already taken place with a doubling of the long term
Jan Dehn, head of research at Ashmore
Investment Management, has a similar view.
The ferocity of the selloff in May and
June, Dehn says, was the result of a "technical overhang"
caused by hedge funds that got caught out on a giant bet that
Japanese investors would pour into emerging market debt
following the Bank of Japan’s pledge in March to
do "whatever it takes"— including doubling the money
supply — to fight deflation.
They got it wrong, Dehn says, and with
Japanese accounts still on the sidelines when taper talk began
— and thereafter yet more bearish following a slump in
the Nikkei index — the stampede of hedge fund money
out of the asset class triggered a massive technical
rebalancing in the market.
"The entire premise of that speculative money
going into emerging markets in April, the entire premise for
that speculative trade is gone," he says. "You’re
not going to see a huge sell-off in EM assets."