- The Federal Reserve’s decision to hold interest rates steady was good news for emerging markets, according to analysts.
- Lower rates would help boost capital flows to developing regions.
- This would in turn weaken the dollar and help developing countries.
- Read more on Markets Insider.
Even markets outside the US are applauding the Federal Reserve’s dovish message on interest rates.
The Fed’s decision Wednesday to hold rates and open the door for future cuts will encourage capital to spread across multiple developing regions, wrote Lukman Otunuga, a research analyst at FXTM, in a note Thursday. That’s beneficial to emerging markets, which have lagged their developed counterparts in recent years.
The Fed decision came amid increasingly dovish sentiment from central banks around the world. On Tuesday, European Central Bank President Mario Draghi said he would stimulate the eurozone if economic conditions didn’t improve. Japan, Holland, Switzerland, and Denmark have even implemented negative interest rates.
“Last year one of our biggest concerns was the US Federal Reserve was on what seemed like a very unwavering path of rate hikes,” said Rashmi Gupta, a money manager at JPMorgan Chase Bank. “We’ve obviously taken that risk squarely off the table.”
The Fed raising rates would strengthen the US dollar, which could hurt emerging market currencies and raise concerns that funding costs for companies and consumers abroad would rise. An environment where the Fed is on a path towards rate cuts is beneficial for global risk assets as it takes some of the pressure off of risk – having a weaker US dollar strengthens other currencies, gives other economies room to cut rates as well, and means that potential losses aren’t as costly.
“We can expect for flows to move back towards emerging markets moving forward, meaning that EM stocks and their currencies will continue to edge higher against the USD,” wrote Otunuga.
This year, emerging-market currencies are already showing signs of better performance. The MSCI Emerging Market Currency Index ticked up 0.2% after the Fed’s decision Wednesday. The rally against the USD will continue and impact the Chinese yuan, Malaysian ringgit, South African rand and as far afield as the Mexican peso, wrote Otunuga. In addition, the dollar index is trading below 97 and could fall further this year, showing that investors are betting against the dollar.
Emerging markets have also priced in a considerable amount of fear on trade, much more than last year, said Gupta. This can be a good thing, as it means that emerging markets are less exposed than the US to potential downside risks if the trade war doesn’t improve.
“I find that fear, inexpensive valuations and fundamental opportunities can create a pretty good risk for people who are willing to allocate,” Gupta said.