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Dollar depreciation benefits emerging market currencies
Economy
US government bonds and emerging market currencies are diverging more than at any time in more than four years, as rising US yields no longer fuel the dollar's strength as they once did.
The Bloomberg US Treasury Index is heading for a quarterly loss as investors sell longer-dated securities amid concerns about the trajectory of US government debt. Meanwhile, MSCI Inc.'s benchmark emerging market currency index is on track for its biggest quarterly gain in more than a year. This has pushed the correlation between the two to its most negative level since the first quarter of 2022.
Emerging markets have attracted global capital flows this year as investors seek higher yields and shift portfolios away from dollar-denominated assets. Rising US yields would typically reduce this appeal, but the correlation has broken down as government bonds have come under pressure for reasons unrelated to the Fed's tight policy. Investors increasingly expect the US government to address its debt and deficit through inflationary and stimulative measures—such as bond purchases—that erode the dollar's real value.
A weaker dollar makes commodities cheaper for countries with other currencies, thereby increasing demand. Commodity exporters among emerging markets, including South Africa, Colombia, and Chile, are posting the largest currency gains this month. The "dollar depreciation deal" makes emerging markets more attractive than developed markets, and commodities more attractive than stocks or bonds, noted Nick Rees, head of macro research at Monex Europe.
"If depreciation concerns continue to mount, this will create a favorable environment for commodity currencies overall—beyond any outflows from G10 currencies or the dollar specifically," Rees said.