The Federal Reserve isn’t the only central bank deploying various monetary policy tools to help an economy contend with the effects of the coronavirus pandemic.
Various emerging market central banks are responding to the global health crisis, and some of those moves could be prove impactful for exchange traded funds, such as the VanEck Vectors Emerging Markets Local Currency Bond ETF (NYSEArca: EMLC).
With the dollar showing signs of life this year, EMLC has been crimped by greenback strength because its holdings are denominated in local currencies. However, some relevant central banks are making moves that could be supportive of those currencies.
“Earlier this month, Mexico’s Banxico and the Central Bank of Brazil tightened monetary policy again to counter inflation pressure and dampen rising inflation expectations,” according to Moody’s Investors Service. “Other emerging market central banks have also tightened policy, including the Central Bank of Russia.”
Debt issued by Brazil, Mexico, and Russia combine for 21.66% of EMLC’s weight, according to issuer data.
Interestingly, Asian central banks are taking a different approach, opting to stand pat on rate tightening as coronavirus cases spike in the region.
“But in Asia, and particularly in Southeast and East Asian countries, where COVID caseloads remain elevated, monetary policymakers are holding rates steady until economic prospects durably improve,” adds Moody’s.
China and Indonesia combine for almost 20% of EMLC’s roster while Thailand and Malaysia, both of which are grappling with elevated COVID-19 case counts, combine for over 12%. For investors considering EMLC, an issue to monitor is the progress on coronavirus vaccination among the ETF’s larger geographic exposures.
“Downside risks from the spread of the coronavirus delta variant are rising in countries that lag on vaccination rates. Differences in vaccination progress and economic recovery dynamics will drive increasingly divergent policy responses as each emerging market central bank calibrates policy to its country’s circumstances,” notes Moody’s.
Another country EMLC investors should keep an eye on is Turkey, which accounts for almost 3.1% of the ETF’s roster. Inflation is running hot there and while interest rates are positive in real terms, the Turkish central bank is under pressure from the government to lower rates to bolster a sagging economy.
Broadly speaking, Moody’s sees emerging markets inflation cooling next year, which could be further supportive of EMLC upside.
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.
