Commodity rally sparks jump in emerging currencies

HONG KONG • The rally in commodity prices is bolstering the outlook for emerging-market currencies and boosting parts of credit and stocks even as it fuels concerns about higher inflation.

The Bloomberg Commodity Spot Index has risen to its highest level since 2012 after advancing 8.7 per cent last month in the biggest jump since August. Many investors expect more gains as the world pulls out of the pandemic.

That has helped lift the MSCI Emerging Markets Currency Index near a record after it surged 1.5 per cent last month, the most this year. A gauge of global stocks has also continued up after increasing 4.2 per cent last month, the best in four months.

Corporate debt from Asian metal and mining firms has also outperformed, returning 2 per cent last month compared with just 0.4 per cent for the broader Asian emerging-market dollar bonds.

Commodity-heavy equities and currencies of countries like Brazil, Mexico, South Africa, Malaysia and Indonesia are particular beneficiaries, Bloomberg Intelligence's Mr Gaurav Patankar said.

Societe Generale notes that the climb signals economic strength that overall supports stocks, even as there are risks to profit margins from inflation.

The strength in commodities, which have surged 65 per cent over the past year, is set to intensify the debate about price increases. The cost of everything from copper to corn has surged, adding to inflationary pressures. Complicating the outlook is the possibility that further jumps may lead policymakers to taper the exceptional stimulus that has buoyed markets.

The commodity rally is a double-edged sword for credit investors, said Mr Mark Reade, head of fixed-income desk research at Mizuho Securities Asia. "While it's clearly positive for the earnings of commodity producers and a sign of rebounding global growth, it could ultimately sow the seeds of higher inflation and earlier-than-expected central bank policy tightening."

Vaccine roll-outs and government policy support are stoking the global economic recovery.

The raw materials index and the currency gauge are moving in tandem more now than at the start of this year, when a measure of 30-day correlation between the two came close to turning negative. In contrast, the correlation between global stocks and commodities is declining.

Still, some strategists and investors continue to expect equities to perform well as a perceived hedge against inflation, as further price jumps could hit fixed-income markets as happened earlier this year.

"Equities, especially those with strong pricing power and reasonable valuations - to avoid the valuation impact of higher rates - are clearly better positioned than asset classes that do not provide inflation protection," said Mr Joshua Crabb, a senior money manager at Robeco in Hong Kong.

One key question is whether profit margins are vulnerable, leaving shares exposed amid rich valuations. Societe Generale's head of Asia equity strategy Frank Benzimra argues that equities can still move up alongside commodities. "Yes, you can see input prices rising, but bear in mind why it is the case - because growth is bouncing," he said. "The net effect for corporate earnings is positive."

In bonds, benchmark 10-year Treasury yields have climbed about 70 basis points this year. But the debt sell-off paused last month, despite a strong month for commodities, as investors mulled over whether price pressures would be transitory.

"The global output gap remains wide, which should help keep inflation in check," said Ms Mary Nicola, portfolio manager, global multi-asset, with PineBridge Investments.

Some analysts see room for at least a moderate rise in yields from the current 1.6 per cent level. "The ongoing recovery will factor into bond yields," said Mr John Woods, Asia-Pacific chief investment officer at Credit Suisse Group, who expects the 10-year US yield to climb up to 1.8 per cent in three months.

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A version of this article appeared in the print edition of The Straits Times on May 05, 2021, with the headline 'Commodity rally sparks jump in emerging currencies'. Subscribe