June 16, 2020 (Updated) Alan Brazil
- Step 1: Macro Theme: The Sell-off In Commodity EM Assets Is A Buying Opportunity
- EM x-China equities have lagged the rebound in US and China equities
- EM x-China FX are at historical lows on a real basis
- Step 2: Fundamental Economic Framework
- EM economies will be harder hit than DM economies from the Covid-19 lockdowns
- The fall in commodity prices adds to the downward pressures on EM
- Capital outflows from EM is almost twice as large as in previous EM risk-off events
- EM Covid cases and deaths seem to be accelerating vs DM countries
- Step 3: Find Potential Repricing Catalysts
- The return of US QE could push commodity EM assets higher by weakening the USD
- Weaker USD could increase capital flows to EM
- Weaker USD could strengthen commodity prices
- Weaker USD could provide a tail wind to commodity EM GDP
- Commodity EM countries have the capacity to deploy substantial fiscal stimulus to support their economies
- EM countries are bending the Covid infection curve using even stricter lockdown strategies relative to the US
- The return of US QE could push commodity EM assets higher by weakening the USD
- Step 4: Find Asymmetric Trade
- Trade: Buy commodity EM FX vs the USD
Step 1: Identify Macro Theme
The Sell-Off In Commodity EM Assets Is A Buying Opportunity
EM x-China Equities Still Down over 25%
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 1 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/Screenshot-2020-06-18-at-12.34.05-958x1024.png)
EM x-China FX at Historical Lows on Real Basis
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 2 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/Screenshot-2020-06-18-at-12.34.14-958x1024.png)
Step 2: Fundamental Economic Framework
Economic Recovery Will Likely Be U-Shaped At Best Not V-Shaped
World GDP a “U” or A “W” Recovery
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 3 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/word-image-39.png)
Advanced Economy Look Similar
![Advanced Economy Look Similar Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/word-image-40.png)
EM Growth Could Fall Even More Than Advanced Economies
Near-term Growth Hit Is Substantial
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 4 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/Screenshot-2020-06-18-at-12.44.54-958x1024.png)
Longer Term Still Great And Could Fall Even More With A
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 5 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/Screenshot-2020-06-18-at-12.44.46-958x1024.png)
Falling GDP Combined With The Fall In Commodity Prices Led To Capital Outflows From EM
Demand Erosion Led To A Sudden Drop In Commodity Prices
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 6 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/Screenshot-2020-06-18-at-12.49.07-1021x1024.png)
Capital Outflows From EM Worse Than In Other Events
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 7 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/word-image-41.png)
Compounding The Problem Was The Surge In Covid Cases In EM1
Cases Are Rising In EM While Falling For DM….
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 8 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/word-image-20-scaled.jpeg)
Along With Deaths
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 9 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/word-image-21-scaled.jpeg)
Step 3: Find Potential Repricing Catalysts
Catalyst 1: The Return Of US QE Weakens USD
Developed Countries Are Returning To QE1
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 10 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/word-image-42.png)
At that could mean a weaker USD
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 11 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/Screenshot-2020-06-18-at-12.55.01-946x1024.png)
Catalyst 1: Return Of US QE Weakens USD– Increases Capital Flows And Drives Up EM FXI1
US QE Was A Major Factor in Driving Capital Flows To EM…
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 12 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/Screenshot-2020-06-18-at-12.57.23-1-1024x1014.png)
While The Unwinding Of QE Reverse Those Flows
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 13 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/Screenshot-2020-06-18-at-12.59.06-1-1024x1014.png)
Catalyst 1: Return Of US QE Weakens USD—Drives Up Commodity Prices And Commodity EM GDP
Stronger USD Could Affect EM Through A Fall In Commodity Prices
Up Until Recently Oil Seemed Immune To the USD But…![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 15 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](data:image/gif;base64,R0lGODlhAQABAAAAACH5BAEKAAEALAAAAAABAAEAAAICTAEAOw==)
Catalyst 1: Return of US QE Weaken USD— That Provides Tailwind To Commodity EM Economies
The USD Has Rallied As The Fed Hikes Rates![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 16 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](data:image/gif;base64,R0lGODlhAQABAAAAACH5BAEKAAEALAAAAAABAAEAAAICTAEAOw==)
Historical Impact of Dollar On Lat-Am Growth![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 17 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](data:image/gif;base64,R0lGODlhAQABAAAAACH5BAEKAAEALAAAAAABAAEAAAICTAEAOw==)
Catalyst 2: Commodity EMs Has Room To Deploy Monetary And Fiscal Stimulus–Case Of Brazil
Pension Reform Reduces Fiscal Pressures![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 18 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](data:image/gif;base64,R0lGODlhAQABAAAAACH5BAEKAAEALAAAAAABAAEAAAICTAEAOw==)
Brazil’s Commodity Footprint Growing: Example of Oil
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 19 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](https://speevr.com/wp-content/uploads/2020/06/word-image-23.jpeg)
Catalyst 2: Commodity EMs Has Room To Deploy Monetary And Fiscal Stimulus–Case Of Mexico
Fiscal Restraint Now Given Mexico Room For Fiscal Stimulus
Investment in Pemex Will Increase Future Oil Production
Catalyst 2: Commodity EMs Has Room To Deploy Monetary And Fiscal Stimulus–Case of Russia
Reserves Have Surged While External Debt Exposure Has Shrunk
Reserves Have Surged While External Debt Exposure Has Shrunk
Catalysts 3: EM Is Bending The Curve Of Covid Using The Same Lockdown Strategy As DM
New Cases Are Slowing Converging To The US
Slowing Reflects Impact of Similar Containment Strategies As US![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 25 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](data:image/gif;base64,R0lGODlhAQABAAAAACH5BAEKAAEALAAAAAABAAEAAAICTAEAOw==)
Step 4: Identify Asymmetric Trades
Buy A Basket of Commodity EM FX Vs USD Cases
Trade Thesis
- EM commodity country FX should appreciate vs the USD
- US QE will weaken the USD vs commodity EM FX
- QE will drive capital flows to EM
- Weaker USD will drive up commodity pries helping commodity EM Countries
- Commodity country EMs have the capacity for fiscal stimulus that should support their economies and reduce risk
- EM countries have used even stricter containment strategies vs the US to bend the Covid curve
Risk is a second wave and a general risk-off environment
Negative Real Policy Rates In The US
![Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM 26 Covid-19 - Part 3: The Fall Of The USD & The Rise Of EM | Speevr](data:image/gif;base64,R0lGODlhAQABAAAAACH5BAEKAAEALAAAAAABAAEAAAICTAEAOw==)
Commodity EM FX Still Have Room To Rally vs USD
Copyright (c) SOM Macro Strategies. 2020. All rights reserved. The information contained herein has been obtained from sources believed to be reliable, but is not necessarily complete and its accuracy cannot be guaranteed. No representation or warranty, express or implied, is made as to the fairness, accuracy, completeness, or correctness of the information and opinions contained herein. The views and the other information provided are subject to change without notice. This report has been created without regard to the specific investment objectives, financial situation, or particular needs of any specific recipient and are not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments. Past performance is not necessarily a guide to future results. Company fundamentals and earnings may be mentioned occasionally, but should not be construed as a recommendation to buy, sell, or hold the company’s stock. SOM Macro Strategies accepts no liability for any damage caused by any virus transmitted by this company’s emails, website, blog and Apps.
Plenty of Excess “COVID” Savings Left To Support Higher Spending