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
• 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%

EM x-China FX at Historical Lows on Real Basis

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

Advanced Economy Look Similar

EM Growth Could Fall Even More Than Advanced Economies

Near-term Growth Hit Is Substantial

Longer Term Still Great And Could Fall Even More With A

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

Capital Outflows From EM Worse Than In Other Events

Compounding The Problem Was The Surge In Covid Cases In EM1

Cases Are Rising In EM While Falling For DM….

Along With Deaths

Step 3: Find Potential Repricing Catalysts

Catalyst 1: The Return Of US QE Weakens USD

Developed Countries Are Returning To QE1

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…

While The Unwinding Of QE Reverse Those Flows

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…

Catalyst 1: Return of US QE Weaken USD— That Provides Tailwind To Commodity EM Economies

The USD Has Rallied As The Fed Hikes Rates

Historical Impact of Dollar On Lat-Am Growth

Catalyst 2: Commodity EMs Has Room To Deploy Monetary And Fiscal Stimulus–Case Of Brazil

Pension Reform Reduces Fiscal Pressures

Brazil’s Commodity Footprint Growing: Example of Oil

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

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

Commodity EM FX Still Have Room To Rally vs USD

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