Most emerging market currencies set to hold on to gains: Reuters poll

A Reuters poll of FX strategists indicates that most emerging market currencies are expected to maintain or extend their gains against a weakening dollar over the next six months, driven by a retreat from the U.S. exceptionalism trade amid concerns over President Trump's trade policies and a deteriorating fiscal outlook; high-yielders like the South African rand and Brazilian real have already seen gains this year, while the Turkish lira is projected to weaken further. However, strategists caution about downside risks, including potential trade disruptions and a possible turnaround in dollar sentiment.

Analysis

A Reuters poll of over 50 foreign exchange strategists, conducted between May 30 and June 4, indicates a consensus that most emerging market (EM) currencies are poised to maintain or extend their year-to-date gains against a weakening U.S. dollar over the next six months. This sentiment reflects a departure from earlier expectations, driven by a perceived shift away from U.S. exceptionalism, concerns over President Trump's tariff strategies, and a deteriorating U.S. fiscal outlook, which collectively are prompting a flight from the dollar and U.S. assets. Consequently, the dollar is increasingly being utilized as a funding currency for EM carry trades. High-yielding currencies like the South African rand and Brazilian real, which have appreciated approximately 6.0% and 10.0% respectively this year, are largely expected to sustain these levels; the real is forecast to decline by only about 2.0%, while the rand is anticipated to trade within a tight range. Conversely, the Turkish lira is an outlier, projected to depreciate by an additional 8.0%. Asian currencies, including the Chinese yuan (expected to remain rangebound), Indian rupee, Korean won, and Thai baht, are predicted to see modest gains of just under 1%. While strategists, such as ING's, note the "path of least resistance is a mildly weaker dollar," suggesting opportunities to "buy EM currencies on dips," significant downside risks persist. These include potential trade disruptions and their impact on global growth, as highlighted by MUFG, and the possibility of a short-term resurgence in dollar sentiment, with some analysts at Monex Europe suggesting the dollar currently appears undervalued on a fundamentals basis.

Key Decisions for Investors

• Evaluate opportunities for tactical long positions in high-yielding emerging market currencies, notably the Brazilian real and South African rand, against the U.S. dollar, to capitalize on the prevailing forecast for continued, albeit modest, dollar weakness over the next six months.
• Closely monitor developments in U.S. trade policy and the U.S. fiscal situation, as these are primary drivers of the current EM FX outlook and any adverse shifts could rapidly reverse positive sentiment towards emerging market currencies.
• Implement robust risk management strategies, such as stop-loss orders or currency options, to hedge against potential U.S. dollar rebounds or an escalation in global trade tensions that could destabilize emerging market currency valuations.
• Maintain a cautious or potentially short stance on the Turkish lira, given its specific projection for continued significant depreciation, which contrasts with the generally more positive outlook for other emerging market currencies.