Despite analysts' neutral stance, EM local rates outperformed expectations. The Fed's hawkishness flattened the US Treasury yield curve, causing the long end to perform better. This unexpected dynamic pulled EM government bond yields lower, delivering gains for investors in local rates.

Despite a major geopolitical shock, Emerging Market currencies have held up remarkably well. In contrast, EM rates markets have shown significant stress, indicating painful positioning squeezes and a reassessment of inflation risks by investors. This divergence signals underlying strength in some areas but reveals hidden fragilities in others.

The sell-off in emerging market rates has not been driven by increased EM-specific risk premiums. The spread between EM and U.S. rates has remained unchanged, indicating that EM is moving in lockstep with a global rate repricing, not underperforming due to unique local concerns.

While a stronger growth environment supports EM currencies, it is problematic for low-yielding EM government bonds. Their valuations were based on aggressive local central bank easing cycles which now have less scope to continue, especially with a potentially shallower Fed cutting cycle, making them vulnerable to a correction.

Emerging Market (EM) currencies have shown surprising resilience, with FX gains being strong enough to offset local bond market sell-offs and result in positive overall index returns. This strength persists despite challenging conditions like rising US real yields and high oil prices, which typically act as headwinds for EM assets.

Contrary to common heuristics, recent market action shows the US 10-year real yield has a more significant and consistent impact on EMFX than oil prices. Even as oil rose, the easing in US real yields provided a stronger positive influence on EM currencies, demonstrating its relative importance.

The traditional correlation where rising rates hurt Emerging Market currencies is breaking down. Strong, synchronized global growth and a multi-year trend of EM growth upgrades are supporting EMFX. This dynamic allows currency carry trades to perform well even as local bond markets sell off due to higher rates.

Unlike local rates, the EM FX market has been less volatile amid recent geopolitical escalations. A key technical reason is that very little capital was positioned in the asset class to begin with, meaning there were fewer positions to be squeezed out, thus dampening the market's reaction.

Recent volatility in emerging market currencies (EMFX) was more strongly correlated with energy market movements than with the Federal Reserve's rate repricing. This suggests that for EMFX, oil and gas prices have been a more dominant factor, challenging the conventional focus on Fed policy as the primary driver.