Emerging markets outlook, October 2013

Emerging markets outlook

Emerging Markets FX

Provides advice, analysis and foreign exchange products to clients within emerging markets.For further information, call +46 8 700 90 20Analyst: Hans Gustafson +46 8 700 91 47


Is published four times a year and is forecastingcurrency developments for selected emerging market countries with a time horizon of 3 months.

No bargain but better value

Emerging markets analysis — 7 October 2013

Concerns about decreased liquidity in the US dollar and the shift down in growth in China initiated strong sales of dollar-based growth currencies. At the same time, fundamental imbalances were exposed in countries that had previously received major capital inflows relatively uncritically. The structural problems are considerable, particularly for those countries that have large deficits in their current accounts. On the other hand, some currencies have fallen to such low levels that considerable misfortune is discounted in current rates. In addition, interest rates have been raised in several countries with the purpose of defending exchange rates and holding back higher inflationary pressure.

The US central bank, the Fed, unexpectedly refrained from starting to scale back bond purchases at its monetary policy meeting in September. This has decreased market concerns of a rapid cutback of stimuli by the Fed, while economic statistics from China indicate a stabilisation of the economy. In the current situation, the likelihood that the cutback will not commence until 2014 is high, since the US labour market has not developed sufficiently strongly to convince the decision makers at the Fed. Within the euro zone, the economic indicators suggest a gradual improvement and the situation is considerably calmer than it was a year ago. This means that we see fewer risks for the zloty, despite growth in Poland currently being low.

On the whole, it is our assessment that the two factors from the US and China that began the decline in emerging markets currencies in June will not be repeated during this half of the year. We are positive towards currencies with active central banks and sizeable reserves. The Indian rupee and the Brazilian real belong to this group. The problems and challenges for these economies are considerable, although it is likely that much of this is discounted in current exchange rates. For India, the real effective exchange rate has fallen to the lowest level in 17 years. We are negative on the Turkish lira, where the central bank is battling a headwind and the current account is again weakening.

The US dollar has weakened against the euro since the summer. The main reason behind this has been Fed’s decision to not start scaling down its bond purchases during its September meeting. However, we believe the dollar to strengthen on the back of higher relative growth and forecast EUR/USD at 1.30 by the end of the year.

The news in this edition is that we are now monitoring and forecasting currency development in South Korea and Indonesia. For reasons of space, Hungary and the Czech Republic have been removed from this publication, although we continue to analyse these countries and are happy to provide currency forecasts on request.

FX/FI research — Swedbank Large Corporates & Institutions Page 2 of 8


Forecast EUR/RUB in 3 months 44.46 (today 43.83) Forecast EUR/PLN in 3 months 4.20 (today 4.21)

Currency forecast vs. the euroCurrency forecast vs. the euro

Poland Spot Rate EUR/PLN

Source: Reuters EcoWin

nov11 12

feb maj aug nov13

feb maj aug

EUR/

PLN

4,0

4,1

4,2

4,3

4,4

4,5

4,6

EUR/

PLN

4,0

4,1

4,2

4,3

4,4

4,5

4,6Russia Spot Rate EUR/RUB


nov11 12

feb maj aug nov13

feb maj aug

EUR/

RUB

38

39

40

41

42

43

44

45

EUR/

RUB

38

39

40

41

42

43

44

45

Economic activity in Poland remains low and the low interest level will persist. On the other hand, optimism is beginning to rise in the industry, supported by improved demand from Germany and less concerns within the euro zone. We therefore expect the zloty to trade within a bandwidth of 4.10 to 4.30 against the euro during the final quarter of the year.

The Polish economy has bottomed out with GDP growth of 0.8 percent in the second quarter, compared with 0.5 percent in the first quarter. Following its lowest point in April, PMI has risen at a steady pace and was 53.1 in September. This indicates continued good momentum in the manufacturing sector ahead, and since June, the trend has been favourable compared with the situation 12 months ago. The trend in real wages has turned from being negative in 2012 to an increase of 3.1 percent at annual rates in June and consumer confidence has risen to the highest level in two years. This is also reflected in the fact that the negative trend in retail sales has turned. On the other hand, domestic demand on the whole remains low, which is keeping inflationary pressure down. Consumer prices rose by only 1.1 percent in August and inflation expectations amounted to 1.0 percent in September. This means that the central bank will keep the policy rate at a low level as long as inflation remains below the tolerance interval of 1.5 to 3.5 percent. In addition, credit growth is very weak, both for companies and households. The central bank lowered its policy rate by 25 points to 2.5 percent at its meeting in July but, at the same time, issued a strong signal that this was the final cut in this cycle.

PolandIncreased optimism in industry

Weak growth and low policy rate

RussiaGrowth disappointments continue

High inflation is an obstacle to rapid stimulation

The Russian economy has continued to surprise with lower growth than expected. The earlier sizeable current account surplus is declining at a rapid pace. Inflationary pressure has abated but remains too high for the central bank to be able to cut its policy rates. A weaker rouble is one of the few opportunities for stimulation by the Russian authorities at the moment.

Growth in Russia continues to surprise on the downside. During the second quarter, the Russian economy grew by only 1.2 percent at annual rates. Confidence in industry has weakened in line with the decline and PMI has been below the 50 mark since July this year, with industrial production activity being at the same level as in 2011. Although exports did gather pace in July, they remain weak, with an increase of 5.5 percent at annual rates in July. For a long time, Russia has been able to boast a large current account surplus. This is now weakening at a fast pace as the balance of trade declines. Conditions for household consumption remain relatively favourable. Unemployment is at a historically low level and wages are rising at a good pace. Retail sales rose by 4 percent in August compared with the same month in 2012. Inflation has abated somewhat but, at 6.5 percent, is too high for the central bank to be able to cut its policy rates. In addition, credit growth in the household sector is too high with average growth at 36 percent in June. The principal problem for Russia is the weak level of investments, which stems from a weak credit offering and an excessive cost of debt in relation to global competitors.



Forecast EUR/TRY in 3 months 2.73 (today 2.72) Forecast EUR/ZAR in 3months 13.52 (today 13.64)


Turkey, Spot Rate, EUR/TRY


nov11 12

feb maj aug nov13

feb maj aug

EUR/

TRY

2,1

2,2

2,3

2,4

2,5

2,6

2,7

2,8

EUR/

TRY

2,1

2,2

2,3

2,4

2,5

2,6

2,7

2,8South Africa, Spot Rate, EUR/ZAR


nov11 12

feb maj aug nov13

feb maj aug

EUR/

ZAR

9,5

10,0

10,5

11,0

11,5

12,0

12,5

13,0

13,5

14,0

EUR/

ZAR

9,5

10,0

10,5

11,0

11,5

12,0

12,5

13,0

13,5

14,0

The South African rand has developed worst this year of the currencies we monitor. Following a decline since the end of 2010, the rand now has a low valuation measured in terms of real effective exchange rates. On the other hand, we do not expect a turnaround as long as the current account deficit shows no sign of improvement. In addition, the difference in interest rates is not sufficiently great compared with other growth countries experiencing similar problems.

The Turkish lira belongs to the group of currencies with major current account deficits that were hit hard by concerns over reduced liquidity in the US dollar. In our assessment, the lira remains sensitive since the current account deficit has again weakened and confidence in economic policy is low.

The South African rand has had the weakest development of all of the growth countries we monitor this year. South Africa continues to be plagued by a growing current account deficit, unease in the mining sector and a weak labour market. The current accounty deficit weakened more than expected in the second quarter, declining to 6.5 percent of GDP. The latest statistics do not suggest any improvement, with the balance of trade showing a deficit for every month since January 2012. GDP rose by 2.0 percent in second quarter, compared with 1.9 percent in the first quarter. Manufacturing industry is maintaining a good pace, while progress remains difficult for the mining sector, which is treading water at the same level of activity as in 2010. PMI fell back below the 50 mark in September after having temporarily picked up in August, suggesting that growth will remain sluggish in the near future. The situation in the labour market has worsened and this is reflected in consumer confidence falling to the lowest level in more than ten years. The central bank policy rate has been unchanged since the cut to a record-low 5 percent in July 2012. In itself, economic activity motivates stimulatory monetary policy, but the rate of inflation was 6.4 percent in August; above the central bank’s tolerance level of 6 percent. As long as the rand does not strengthen, an imminent increase in interest rates is unlikely.

The Turkish lira noted a new lowest against the US dollar in August. The lira has been pressured by numerous factors since May this year. The regime’s authoritarian reaction against the demonstrators in Taksim Square broke an extended period of social calm. Exports have plummeted this year, increasing the current account deficit and concerns over its financing. Confidence in monetary policy is in tatters with both inflation and credit growth having rocketed way beyond targets. This is the effect of the central bank’s stubborn focus on stabilising capital flows compared to fighting inflation. However, GDP surprised strongly with growth of 4.4 percent in the second quarter, largely driven by inventory build-up. The weak lira has blown air under the wings of export industry, as can be seen in PMI, which rose strongly to 54.0 in September, driven by new orders. The downside of the weak lira and high inflationary pressure is weakened household purchasing power, which has reduced consumer confidence. The central bank is battling a headwind and has raised its upper policy rate to 7.75 percent in two stages since the summer. Turkey remains largely dependent on short-term portfolio flows to finance the current account deficit. Foreign direct investment amounts to only about USD 10 billion, compared with financing needs for the current account of about USD 55 billion at on-going annual rates.

South AfricaLow valuation

Weak current account

TurkeyLow confidence in monetary policy

Weakened external balance



Forecast EUR/MXN in 3 months 17.16 (today 17.90) Forecast EUR/BRL in 3 months 2.80 (today 3.00)


Mexico, Spot Rate, EUR/MXN


nov11 12

feb maj aug nov13

feb maj aug

EUR/

MXN

15,5

16,0

16,5

17,0

17,5

18,0

18,5

19,0

EUR/

MXN

15,5

16,0

16,5

17,0

17,5

18,0

18,5

19,0Brazil, Spot Rate, EUR/BRL


nov11 12

feb maj aug nov13

feb maj aug

EUR/

BRL

2,22,32,42,52,62,72,82,93,03,13,23,3

EUR/

BRL

2,22,32,42,52,62,72,82,93,03,13,23,3

The Mexican peso has weakened in line with other growth currencies since June, albeit not to the same extent. We are positive towards the peso in the medium term thanks to the reform efforts and the proximity to the US. The risk of further rate cuts and uncertainty regarding the US labour market cause us to be neutral on the peso for the remainder of the year against the US dollar and positive against the euro.

Growth in Mexico has slackened considerably this year. GDP rose by 1.5 percent in the second quarter, which can be compared with an average growth rate of 2.6 percent over the past ten years. Industrial production has been weak since the end of 2012 and fell by 0.5 percent at annual rates over the month of July. On the other hand, PMI has strengthened from just beneath the 50 mark from the bottom level of 46.5 in June and exports have recovered from the decline early in the year. Retail sales are weak and consumer confidence shows no sign of improvement. Inflation has fluctuated around 4 percent over the past 12 months, while the rate of increase in core inflation has gradually fallen to the lowest level since the 1970s. The weak economic trend caused the central bank to unexpectedly lower its policy rate by 25 points to 3.75 percent in early September. The central bank previously foresaw a faster recovery in the latter half of the year. Consequently, we do not rule out a further interest rate cut before the end of the year. This means decreased interest support for the peso, particularly in relation to the Brazilian real, where we expect further rate hikes. Structurally, we are positive towards the peso thanks to the reforms that the government is proposing regarding the deregulation of the energy sector, which opens up for direct foreign investment.

With the real having trended downwards since June 2010, the real effective exchange rate is now down at the levels that prevailed during the financial crisis. It is our assessment that this low level, combined with an active central bank and high policy rates, will stabilise the real and provide a certain degree of reinforcement over the next few months. The greatest risk is renewed concerns over a normalisation of US monetary policy.

GDP grew by 3.3 percent in the second quarter compared with 1.9 percent in the first quarter. Industrial production has lost speed since June and fell by 1.2 percent at annual rates in August. PMI has risen from its lowest point in June to 49.9 in September, thus indicating a relatively cautious recovery. Exports are developing sluggishly, while imports are maintaining a good level. The surplus in the balance of trade is now gradually decreasing and the current account deficit is rapidly weakening, amounting to approximately 3.7 percent of GDP in August. The situation in the labour market is weak with an increase in employment of merely 1.2 percent in August compared with an average of 2.9 percent over the past ten years. The rate of inflation has abated somewhat but, at 6.1 percent, is close to the central bank’s upper tolerance level and inflation expectations are the highest since 2004. The central bank has raised its policy rate by 175 points in four stages over the year to 9 percent. Given the high rate of inflation, which is expected to be further exacerbated by higher import prices due to the weak real, we expect further rate hikes this year. Higher interest rates will hold down household consumption and the ten-year bond rate has risen from 9 percent early in the year to nearly 12 percent in September.

BrazilImproved valuation, active central bank and higher

interest rates

Weak growth and weak balance of payments

MexicoGrowth reforms on the way

The economy has lost momentum



Forecast EUR/IDR in 3 months 15228 (today 15246) Forecast EUR/KRW in 3 months 1417.00 (today 1454.03)


Indonesia Spot Rate EUR/IDR


nov11 12

feb maj aug nov13

feb maj aug

EUR/

IDR

1100011500120001250013000135001400014500150001550016000

EUR/

IDR

1100011500120001250013000135001400014500150001550016000

South Korea Spot Rate EUR/KRW


nov11 12

feb maj aug nov13

feb maj aug

EUR/

KRW

1375

1400

1425

1450

1475

1500

1525

1550

EUR/

KRW

1375

1400

1425

1450

1475

1500

1525

1550

With a sizeable currency reserve and a current account surplus of more than 5 percent of GDP, the South Korean won has had a relatively strong development compared with other growth currencies in the region. We expect a consolidation of the won over the remainder of 2013 against the US dollar and some strength against the euro.

With a decline of 16 percent against the euro, the rupiah is the currency that has been hardest hit of those we monitor since the unease began in the summer. In addition, the interest level for ten-year government securities doubled over the summer. In our view, the risks for the rupiah against the US dollar remain considerable. We are neutral towards the rupiah measured in euros.

GDP rose by 2.3 percent in the second quarter, meaning that the economy has stabilised. Industrial production recovered in August with an annual rate of 3.7 percent and new orders for machinery have risen sharply. We expect the recovery to be relatively calm however. Although PMI rose in September, it remains below the 50 mark. A stabilisation of growth in China is of considerable importance for South Korea, since exports to China amount to more than 26 percent of total exports. Retail trade has been weak since 2012 with an annual rate fluctuating around zero. The government has announced a stimulation package with 2.5 percent higher expenditure, including welfare expenditure, labour market ventures and healthcare, which is expected to strengthen consumer confidence. Inflationary pressure is very low. Consumer prices rose by only 0.8 percent in September, which is the lowest rate of increase since the Asian crisis of 1999. This means that inflation is below the central bank’s tolerance level of between 2 and 4 percent by a broad margin. The central bank’s view is that resources will be unoccupied for a long time to come. Consequently, we expect no changes in monetary policy before the summer of 2014. The key rate was most recently cut in May by 25 points to 2.5 percent.

The economic trend has brought several negative surprises in recent months. GDP grew by 5.8 percent at annual rates in the second quarter, which was the lowest level of growth since the third quarter of 2010. Exports have been weak since early 2012 and fell by 6.3 percent during August alone. The balance of trade has gradually worsened since the end of 2011. The current account deficit amounted to 4.4 percent of GDP in the second quarter, which was surprisingly high and the highest in recent memory. Inflation has accelerated following the government’s decision to cut back subsidies on vehicle fuel. In September, the rate of inflation was 8.4 percent, compared with levels below 5 percent in 2012. The central bank has attempted to stabilise the currency by raising the policy rate in several stages over the summer by a total of 150 points to 7.25 percent. It has also signed a swap agreement with the Japanese central bank. These measures have not been sufficient to stop the outflow of currency, which has caused currency reserves to decline by approximately USD 15 billion to USD 86 billion. Pressure on the central government budget is now increasing since the cost of importing subsidised vehicle fuel has risen considerably due to the weakening of the currency, while tax revenues have decreased in line with the weaker economy.

South KoreaLarge reserves and strong external balance

Weak momentum in the economy

IndonesiaNegative trend in the current account

Low confidence in monetary policy



Forecast EUR/INR in 3 months 76.70 (today 84.11) Forecast EUR/CNY in 3 months 7.88 (today 8.32)


Recent statistics show that growth in China has shifted down a gear, while at the same time stabilising. GDP rose by 7.6 percent in the second quarter compared with 7.7 percent in the first quarter. The rate of investment has fallen and, since 2012, it is rising by about 20 percent at annual rates, compared with 25 percent over the period 2010-2011. The rate of wage increases has declined from levels above 25 percent in early 2012 to approximately 17 percent, which has had an impact in the form of lower retail sales. The political focus is on restraining economic activity to a more sustainable long-term trend. The risk of a hard landing is considerable unless the credit expansion of recent years is halted and the bubble tendencies are addressed. Total credit growth has calmed since the authorities permitted a substantial increase in interbank interest rates at the end of June. House prices, on the other hand, have continued to rise, with the annual rate amounting to 8.3 percent in August. PMI is now above the 50 mark for both large and small companies. The central bank injected substantial liquidity at the end of September to prevent turbulence in the interbank market equivalent to that which occurred at the end of June. The governing party

Confidence in economic policy weakened considerably during the summer with concerns over the quality of the credit stocks in the Indian bank system. This, combined with expectations that the Fed would start scaling back its bond purchases, resulted in a strong decline for the rupee and a considerable slump in the stock market. The economic slowdown has continued with GDP growth at only 4.4 percent in the second quarter. Industrial production has been weak since 2011. PMI rose from 48.5 to 49.6 in September and thus remains at a historically very low level. Inflation is high with a rate of increase of 9.5 percent in consumer prices in August. The current account deficit is of a record size, although the worsening has ceased during the year, mostly because imports have collapsed. The deficit in the current account has thus decreased as a proportion of GDP. In September, Raghuram Rajan became the new governor of the central bank, having previously worked as chief economist at the IMF. He immediately initiated a number of measures aimed at stemming the outflow of capital and unexpectedly raised the policy rate by 25 points at the end of September. Since then, the Rupee has strengthened. For a more lasting strengthening of the currency, it is now necessary that politicians implement reforms that increase future confidence in the economy.

The renminbi has been stable against the US dollar in recent months, which is in line with the political focus on stabilising the economy. On the other hand, the Chinese currency has strengthened by some 6.5 percent this year against a trade-weighted basket of currencies. We expect a continued stable trend against the USD and given our EUR//SD forecast implies a stronger renminbi against the euro.

The Indian currency is now down at the lowest level in more than 16 years in terms of the real effective exchange rate. In the short term, we are positive on the rupee thanks to increased confidence in the central bank, high interbank rates and a currency reserve covering three years of current account deficits.

China, Spot Rate, EUR/CNY


nov11 12

feb maj aug nov13

feb maj aug

EUR/

CNY

7,77,87,98,08,18,28,38,48,58,68,78,8

EUR/

CNY

7,77,87,98,08,18,28,38,48,58,68,78,8

India, Spot Rate, EUR/INR


nov11 12

feb maj aug nov13

feb maj aug

EUR/

INR

60

65

70

75

80

85

90

95

EUR/

INR

60

65

70

75

80

85

90

95

ChinaEconomy shows signs of stabilising

Politicians are guiding down growth

IndiaLow valuation and active central bank

Weak growth and strong need for reforms



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Emerging markets outlook, October 2013