The minutes of the US Federal Open Market Committee (FOMC), released on Thursday, pushed the US dollar higher versus risk currencies and sent global stock markets lower, as they spelled out worries about expanding the Federal Reserve’s balance sheet further.
Danske Bank senior analyst Signe Roed-Frederiksen believes that a “key phrase” in the minutes suggests that if the economic recovery continues and unemployment falls at the projected pace, “the Fed is likely to end its asset purchases before the end of this year.”
The minutes showed that several members of the FOMC “thought that it would probably be appropriate to slow or to stop purchases well before the end of 2013, citing concerns about financial stability or the size of the balance sheet.”
Emerging market currencies, led by the South African rand (ZAR), fell after the release of the minutes as the US central bank’s easy monetary policy is thought to be one of the main forces behind the rally in emerging markets assets.
But analysts say the move lower will be short-lived. “I would not be prone to over-panicking here,” Benoit Anne, head of emerging markets strategy at Societe Generale, told Emerging Markets.
“The case for emerging markets remains as solid as ever.”
EMERGING MARKETS SAFE
Lee Hardman, a currency analyst with the Bank of Tokyo-Mitsubishi UFJ, said the minutes were likely to “dampen investor risk appetite” over the near term but over the longer term emerging markets would do well.
“Our view is still that loose monetary conditions would remain for the Fed for this year, which would remain supportive for emerging market currencies,” Hardman told Emerging Markets.
He noted that Fed Chairman Ben Bernanke, Vice-Chair Janet Yellen and New York Fed President William Dudley, the most influential FOMC members, were still dovish.
Even if the dollar is to strengthen later this year on the back of better US economic growth, as Bank of Tokyo-Mitsubishi UFJ anticipates, emerging markets will still be attractive for investors, according to Hardman.
“From an emerging markets currency perspective, if the US economy strengthens, that could be supportive,” he said. “If the global economy improves as the year progresses, economic conditions should be supportive for inflows into these countries.”
“High yields in emerging markets and better fundamentals would still remain attractive.”
The key market risk to watch, Anne said, was a potential correction of the S&P in the US, which would constitute a “serious” threat for emerging markets.
“Right now, we are simply in a transition phase whereby global investors are still uncomfortable about how to interpret stronger US data. This will not last long as I see it,” he said.
“Let’s wait for the dust to settle and enjoy some nice buying opportunities again emerging in the EM high-beta space.”