Asian emerging-market (EM) currencies, particularly the renminbi, may provide better long-term prospects for investors than the US dollar and other developed-market currencies as the global economy recovers slowly from the ravages of Covid-19.

Although EM currencies had depreciated by 50% against the US dollar from April 2011 to March 2020, at the height of the pandemic, they have started to recover since September 2020 up to the present. The MSCI International Emerging Market Currency Index, the benchmark for EM currencies, has risen from a low of 1,627.98 in September 28 2020 to a record of 1,732.65 on February 15 2021.

“The tide has now turned, as some emerging-market currencies have already started to make up for lost ground, while others should soon jump on the recovery bandwagon,” says Sven Schubert, senior investment strategist at Vontobel Asset Management.  “The reason for this is that in addition to long-term drivers such as purchasing power, cyclical factors also influence currencies. The latter are likely to provide a tailwind in 2021 – first and foremost, global economic growth.”

Also, the progress of the anti-Covid vaccination campaigns globally, falling infection figures, and the continued ultra-loose monetary policy of the US Federal Reserve and the European Central Bank point to a strong economic recovery as soon as the pandemic’s restrictions are eased. This is expected to push recovery in global trade, which has been sluggish since the financial market crisis, and benefit emerging markets.

“We have become more positive on emerging-market currencies and expect them to appreciate more than their developed-market peers in 2021. The shift in outlook is driven predominantly by improved economic growth prospects, not only within emerging-market economies but also in many of the export destinations they serve,” says Dagmara Fijalkowski, head of global fixed income & currencies at RBC Global Asset Management.

Stronger fundamentals

The recovery of Asian EM currencies such as the Indonesian rupiah, the Malaysian ringgit and the Thai baht looks more sustainable than the Latin American currencies as the former have stronger economic fundamentals and have managed the pandemic better. These economies are also benefiting from the relocation of US companies that have moved their production capacity out of China to other countries in the region rather than bringing it back to the United States.

The rupiah (IDR) has plummeted from its peak of  IDR16,340:USD1 in March 31 2020, its highest level since June 2013, to IDR14,254.6:USD1 as of March 1 2021.

The Malaysian ringgit (MYR) has also plunged from MYR4.44:USD1 in March 24 2020, it's highest level since February 2018, to MYR4.05:USD1 as of March 1 2021.

The Thai baht (THB) has also dropped THB32.93USD1 on April 3 2020, it's highest level since January 2020, to THB30.23:USD1 as of March 1 2021. It was at THB36:USD1 in December 28 2016.

“This allows these US companies to circumvent potential sanctions against China while still being able to quickly serve the Chinese market. This is a development that is likely to continue, also in view of the steadily increasing purchasing power of Chinese consumers. In particular, direct investment in Asian countries that are members of the recently launched Regional Free Trade Agreement (RCEP) should continue to pick up,” says Schubert.

The Vietnamese dong (VND), in particular, has been benefiting from that country’s favoured status as a major destination of US companies relocating from China and the shift in supply chain even though the government has, at times, used foreign exchange intervention to prevent undue appreciation of the currency.

The dong has floated at the level of  VND23,195.77:USD1 as of March 2019 to a peak of VND23,629.80USD1 in March 2020 to its current level of  VND23,213 as of March 1 2021. It floated at the 22,000VND:USD1 level in 2016-2017 before the US-China trade war began in 2018.

There is also increased demand for the renminbi which has gained attractiveness despite the partial relocation of production capacities abroad. While the Chinese equity market has played an important role in investor portfolios for some time, 2020 has also seen the inclusion of Chinese local currency bonds in common portfolio benchmarks. This has led to the strongest capital inflows into Chinese equities and bonds since 2011 in the second half of 2020 and a nearly 10% appreciation of the renminbi against the US dollar.

Renminbi bonds

Continued high real yields of renminbi bonds (3% on 10-year Chinese government bonds), currently surpassed only by Malaysia, Indonesia, Turkey and South Africa, suggest strong renminbi demand this year as well. In addition, international trade flows may also be increasingly denominated in yuan in the future.

“China has successfully navigated an exit from pandemic lockdowns and has experienced a quick rebound in economic activity. China accounts for an ever-larger share of the global economy and its influence has grown further this year as a newly inked trade deal was struck in November with 14 of its Asian neighbours,” says Fijalkowski.

China's agreement with Russia to settle their bilateral trade in renminbi rather than US dollars is a landmark move by two major players that could accelerate the trend towards slowly unseating the US dollar in the international foreign exchange market.  Also, according to the International Monetary Fund, the renminbi currently accounts for only a little over 2% of the foreign exchange reserves of global central banks. Thus, the Chinese currency could still continue its appreciation trend and pull other Asian currencies along with it.