Emerging market currencies off to flying start

Emerging market currencies are on track for their best start to the year since the turn of the century as risk appetite among investors improves.

The Mexican peso, Brazilian real and Indian rupee have outstripped currencies in the world’s most industrialised nations to gain more than 5 per cent against the US dollar this year, bouncing back from sharp falls in recent months.

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“It has been a spectacular start to the year for emerging market currencies,” said Benoit Anne, EM strategist at Société Générale.

The peso and the rupee have both risen 7 per cent this month against the dollar, while the real and the Russian rouble are up 6 per cent since the start of the year.

The 15 main emerging market currencies have each risen more than their historical average performance for the first month of the year this century. In contrast, the euro, yen and pound have risen less than 1.5 per cent against the dollar.

Emerging market equities have risen in tandem with currencies as international investors’ appetite for risk rose sharply and fund managers saw buying opportunities after last year’s deep price declines.

Investors poured more money into emerging market equity and bond funds last week than at any time since April last year, committing $4.4bn, according to EPFR Global, a data provider. The dollar-denominated MSCI emerging markets’ equities index, which lost 21 per cent in 2011, is up 10.2 per cent this year.

Individual markets have done better still: crisis-hit Egypt is up 25 per cent in dollar terms, making it the top performer among emerging equity markets. It is followed by Hungary, up 21 per cent, and Turkey, up 19 per cent.

The JPMorgan EMBI+ index of emerging market hard currency bonds is up 1.2 per cent on the month. Local currency bonds have done much better, with investors profiting from the currency upswings in key markets, including Turkey, South Africa and Brazil.

However, most emerging market currencies have still not recouped last year’s losses after investors withdrew from Asian and Latin American countries in the latter half of last year, when fears of a eurozone break-up intensified.

Currency analysts at investment banks have said emerging market currencies will outperform the dollar and the euro this year.

Global currency investors have been using the euro to fund emerging market positions, with the single currency rising in popularity as a so-called “carry” currency thanks to its lower interest rates.

JPMorgan has reported that many of its clients have been switching from the dollar to the euro to fund bets on the Mexican peso and the Brazilian real. Analysts at UBS have recommended clients borrow euros to invest in higher-yielding currencies, including the South African rand and the Turkish lira.

But emerging market currencies remain at risk of central bank intervention this year. Analysts say policymakers are likely to take steps to limit currency appreciation to aid exports if global growth slows, while a reversal in risk appetite could see investors withdrawing funds again.