ISAG Forum – Millennium Global Investments Ltd – August 2016


Where do we stand in the process of emerging market adjustment and what are the implications for currencies?


- Claire Dissaux – Managing Director – Head of Global Economics & Strategy
- François Oustry – Managing Director – Head of Investment Solutions Group
- Michael D. Huttman – Chairman


Opportunities: Emerging market differentiation

Since the 2008 financial crisis, prospects for emerging economies have been downgraded and associated risks re-assessed by investors but in the meantime emerging market asset prices, in particular currencies, have adjusted to reflect structural challenges. To which extent does the currency adjustment now reflect underlying fundamentals, and what are therefore the opportunities for investors?

Emerging market economies face a lasting impact from the commodity price shock that creates huge transfers of income, along with reduced demand from developed economies, and pressure to reduce debt after years of strong foreign capital inflows.

The adjustment involves a variable combination of measures depending on the country that include: structural reforms, monetary and fiscal policy responses and exchange rate depreciation. In some economies, the exchange rate has been the primary tool used to absorb shocks and we believe there is now a case for differentiation in the final phase of adjustment. This should come through in the form of fiscal policy and structural reforms in a number of economies (eg. Mexico, India, Indonesia, Brazil…) whereas the exchange rate still has a role to play in other markets (eg. China, Taiwan, Korea, Singapore…).

Risks: How can a systematic approach protect a fundamental view against unpleasant surprises?

Once fundamental views on emerging market currencies have been established through the discretionary investment process, in this case according to the theme of differentiation of ongoing emerging market adjustments, the degree of conviction attached to these views specified. It would be prudent then to:

1. Appreciate the timing and the intensity with which the currency manager can express this theme

2. Protect the medium-term view using a self-insurance mechanism against “bad surprises”

We will illustrate the approach on several emerging market currencies by showing that it is possible to develop effective dynamic hedging programmes using currency forward contracts by marrying implicit fundamental views taken from a discretionary portfolio with an option replication mechanism to withstand unpredictable shocks. We also show that the information contained in the momentum of currency option skews is a very good complement to the fundamental views.


For information about this forum : Ms Claire Dissaux – t: +44 (0)20 7663 8900

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