A hawkish Fed raises real US yields while lower oil prices reduce inflation expectations (break-evens). This specific combination has historically been the most damaging environment for emerging market fixed income assets, creating a dual headwind for investors.
Contrary to the broad focus on Fed policy, emerging market sovereign credit spreads show greater sensitivity to oil prices. This is evident in the diverging performance of oil-importers like Kenya (spreads tighter) versus oil-exporters like Nigeria (spreads wider) as oil prices fell.
While analysts maintain a constructive view on emerging markets, client surveys and feedback show investors are actively reducing positions. This divergence is driven by caution surrounding the Fed's hawkish shift, with risk reduction taking priority over capitalizing on the fundamental outlook.
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.
The market-friendly outcome in Colombia's presidential election produced a 'tepid' reaction. Most positive news was already priced in after the first voting round. The winner's narrow victory margin now shifts market focus from the result to the new government's ability to execute fiscal consolidation plans.