Emerging-market assets are drawing renewed attention as expectations around the Federal Reserve’s next interest-rate decision shift, creating a more supportive backdrop for equities and currencies across developing economies.
Emerging-market stocks advanced as investors reduced the probability they were assigning to a US interest-rate increase at the Federal Reserve’s September meeting. Currencies across the asset class also strengthened as the change in expectations placed pressure on the US dollar, altering one of the key external variables affecting emerging economies.
The MSCI emerging-market equity index rose by as much as 1.1%, its strongest move in more than a week, while a comparable currency index gained 0.2%. The simultaneous movement in stocks and currencies highlights the sensitivity of emerging markets to changes in US monetary policy expectations, particularly when those changes influence Treasury yields and the dollar.
The immediate shift followed comments from Federal Reserve Governor Christopher Waller indicating that he would support keeping interest rates unchanged if inflation continues to moderate. That position reduced expectations of an imminent increase in borrowing costs and encouraged a reassessment of the likely path for US monetary policy.
Pricing in swap markets linked to the Federal Reserve’s 16 September meeting subsequently suggested roughly equal chances of a quarter-point rate increase. Earlier in the week, the implied probability had been around 70%. The adjustment is significant because markets had been positioning for a greater likelihood of tighter monetary conditions, leaving emerging-market assets exposed to any resulting strength in the dollar and US yields.
Attention is now turning to incoming US economic data, which could determine whether the change in expectations proves durable. Employment figures are particularly important because a stronger-than-expected reading could revive expectations of a September increase, potentially reversing some of the pressure on the dollar and creating a more challenging environment for emerging-market equities and currencies.
The improvement in market conditions reflects a change in expectations rather than a confirmed change in Federal Reserve policy. Further data will therefore play a central role in determining whether emerging markets retain the more favourable monetary backdrop now being priced.
Fidelity Emerging Markets Limited (LON:FEML) is an investment trust that aims to achieve long-term capital growth from an actively managed portfolio made up primarily of securities and financial instruments providing exposure to emerging markets companies, both listed and unlisted.
