How to trade US Treasuries moves in emerging markets

The benchmark 10-year US Treasury bond yield rose by about 30 basis points in the first two weeks of May, getting close to 2%, as better-than-expected data on the US labour market led investors to believe the Federal Reserve might prepare the ground for an exit from its quantitative easing policy.

Some interpreted the move in US Treasuries as a "risk-off" signal for emerging markets, but Benoit Anne, head of emerging markets strategy at Societe Generale, believes that it actually "offers a great opportunity to re-enter bullish emerging markets fixed income positions."

"This is because the global emerging markets environment remains quite supportive of lower rates across the board, reflecting the combination of poor macro data, easing central banks, and the hunt for yields," Anne wrote in a market note.

He acknowledged that a significant rise in US rates would be a "serious threat" for emerging market assets, but said that this was still some time in the future.

"The combination of abundant liquidity and dovish central banks creates a sweet spot for emerging market bonds. We also believe that the hunt for yield will prevail for a while, as we are seeing no loss of appetite on the part of emerging market investors," Anne added.

He likes countries with prospects of further credit rating upgrades, strong fiscal fundamentals and strong expected capital inflows. In emerging Europe, that translates as Russian and Turkish local debt.

Societe Generale's strategists maintained their overweight on Turkey and Russia, upgraded the Czech Republic to neutral from underweight, shifted Poland to underweight from neutral and kept their underweight on Hungary and South Africa.

In Russia, macroeconomic conditions have deteriorated, which may bring some "fairly aggressive" monetary policy easing in the near future, while falling oil prices have compounded the risk of a slowdown, Anne wrote. 

He is also bullish on the long-end in Mexico, and launched a new trade recommendation to investors to buy 2031 Mbono bonds.

"We also like local bonds in Romania and Serbia," Anne added.

In terms of currencies, the Societe Generale strategists kept a "positive view" on the Romanian leu (RON) but warned that a rate of below 4.30 to the euro could trigger some central bank intervention.

They expect the Turkish lira (TRY) "to perform relatively well compared to most other EMEA currencies," see "some upside" for the Polish zloty (PLN), expect the Czech crown (CZK) to underperform because of economic growth issues and are bearish on the ruble (RUB) because of the weakness in oil prices.

In Latin America, they believe the Chilean (CLP) and the Mexican peso (MXN) are "negatively skewed" but find the Brazilian real (BRL) "tactically attractive" as they think officials will intervene soon if the sell-off worsens.

In Asia, worries about Chinese growth and about Japan's weaker yen policy should continue to weigh on other countries' exchange rates, especially the Korean won (KRW) and the Taiwanese dollar (TWD), the Societe Generale analysts said.

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