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Global Strategy Summary: Emerging Markets

Core Content

This document outlines UBS's strategic views on the 22 largest Emerging Markets (EM) across macroeconomic, equity, FX, rates, and credit dimensions. It emphasizes the need for tactical caution due to rising stagflation risks, while identifying opportunities in certain EM markets.

Main Views

Stagflation Risks and Macro Vulnerabilities

• Asia Ex China Oil Demand: Likely contracted ~5% y/y in April, with global oil inventories expected to reach record lows by end-May, increasing stagflation risks.
• Macro Vulnerabilities:
  • Thailand's fertiliser stockpiles are insufficient for the rice planting season.
  • Indonesia's FX reserves offer the weakest import coverage in 15 years.
  • India, Indonesia, and the Philippines show faster moderation in growth momentum.
• Equity Breadth: EM equity breadth is narrowing, with North Asia (China, Korea, Taiwan) offering better risk/reward than other regions.
• FX and Rates:
  • FX implied volatility has fallen to pre-conflict levels.
  • Some oil importers (e.g., MXN, CLP, ZAR) are vulnerable to terms of trade deterioration.
  • Policy rates in India and Korea are expected to rise back to 2022 levels, while Thailand and Malaysia are pricing in less inflation risk.
• Credit Risk: EMBI GD spreads have tightened to pre-conflict levels, but certain markets (e.g., Egypt, Poland, Indonesia) offer weak risk/reward.

Positive Long-Term Signs

• Dollar's Medium-Term Outlook: The dollar may struggle to capitalize on multiple tailwinds, creating opportunities for EM.
• Diversification Interest: EM assets may gain more attention as safe haven definitions broaden.
• China's Role:
  • China's export volumes have been robust, with a 29% y/y increase in Jan-Feb 2026.
  • China's export prices remain relatively strong, with a real effective exchange rate (REER) near 20y lows.
  • Chinese equities are preferred over India, Thailand, and Japan due to lower oil dependency, government pricing mechanisms, and potential AI-driven growth.

Key Trade Recommendations

FX

• Long CNH vs USD and EUR
• Short THB vs KRW
• Long USD vs IDR
• Long TWD vs INR (via dollar put/call flies)
• Short PLN vs HUF
• Long BRL vs CLP
• Long USD vs MXN call spread

Equities

• Overweight MSCI China, Brazil, Malaysia, Indonesia
• Underweight India, Saudi Arabia, Thailand
• Long MSCI China vs MSCI India
• Long Internet vs Autos

Local Rates

• Long 10y BRL NTN-F
• Long 10y HGB
• Pay 5y PLN
• Pay 5y THB OIS
• Long INR 6m forward, 1s5s Steepener
• Receive 1y1y MXN

Credit

• Long Nigeria vs short Egypt
• Underweight Poland (vs A/BBB)
• Long Argentina 2035s

Key Risks and Opportunities

Upside Risks

• Energy Supply Pressures Abate: If energy supply shocks ease quickly.
• Reform Expectations: Elections in Brazil, Colombia, and South Africa could accelerate reform.
• Tariff Rollbacks: Additional US-China tariff rollbacks may benefit EM.

Downside Risks

• US Rate Hikes: Potential for continued rate hikes.
• AI Adoption Uncertainty: Loss of confidence in AI adoption.
• Oil Disruptions: Continued disruption in the Straits of Hormuz beyond May.

Key Dates to Watch in the Next 3 Months

• May: CNB Monetary Policy Report, MSCI Equities rebalancing, Trump-Xi Meeting, Korea NPS annual report, MSCI rebalancing effective, Korea RIA account 100% tax exemption deadline.
• June: Korea Local election, Peru Presidential runoff, ECB, FOMC, Colombia Presidential – potential 2nd round, Thailand Land bridge project proposal submission, MSCI Decision on Indonesia Market Status, MSCI decision on Korea equities DM status.
• July: Mexico-US USMCA joint-review, Bol staff fct, Philippines SONA, China Politburo meeting, Key earnings from Samsung, SK Hynix, MAS meeting, ECB, FOMC, Colombia 2027 budget bill.
• August: Brazil Presidential candidate registration deadline, Indonesia Budget, Poland 2027 budget draft, RRF request deadline.

Key Charts

Figure 1: MSCI EM Top 3 Contributors

• MSCI EM has fully recovered March losses, driven by Korea and Taiwan.
• Top 3 contributors generated ~55% YTD return, while the rest of the index saw ~5%.
• This concentration is more pronounced in EM than in the US.

Figure 2: 3m Change in 12m Fwd Earnings

• EM earnings have been revised upward at the fastest pace in at least 20 years.
• Korea and Taiwan have been key contributors to this revision.

Figure 3: Earnings Revisions for Energy-Sensitive Industries

• Energy-sensitive sectors have seen limited earnings downgrades.
• Analysts believe the shock is transitory, and higher oil prices are not fully passed through to downstream.

Figure 4: Chinese Export Juggernaut

• China's export volumes have surged, with a 29% y/y increase in Jan-Feb 2026.
• China's export prices remain strong relative to peers, suggesting a relative cost advantage over EM.

Figure 5: Real Effective Exchange Rate (REER) for RMB

• RMB's real value is near 20y lows, despite nominal appreciation.
• This suggests that the yuan is still undervalued on a real basis.

Figure 6: Relative Food Inflation Vulnerabilities in Asia

• Asia is highlighted for its high food weight in CPI and weak food trade balance.
• Fertilizer consumption and import dependence are key indicators of vulnerability.

Figure 7: Commodity Trade Balance Implications

• FX performance of several countries is tied to their commodity trade balance.
• Mexico and Chile show negative FX performance, while Brazil and Argentina show positive.

Figure 8: China vs EM in ROIC

• China's ROIC has improved steadily compared to EM-ex-China.
• This trend supports the case for overweighting Chinese equities.

Figure 9: China's FX Position

• China's share in global imports has remained stable, but its FX position is undervalued on a real basis.
• The REER is near 20y lows, suggesting potential for further appreciation.

Key Markets and Themes

Asia

• China:
  • Expected 4.5% y/y GDP growth in 2026 with upside potential from improved monetary/fiscal coordination.
  • Export growth remains solid, but consumption is weak.
  • Credit growth is resilient on the surface but weak underneath.
  • FX and equity markets are firm, with limited urgency for policy easing.
• Korea:
  • Strong support from the memory cycle, with memory revenues expected to rise ~270% y/y in 2026.
  • Real exports grew 10% y/y in Q1, and GDP growth reached 3.6% y/y.
  • Inflation risks are rising, with CPI potentially exceeding 3% y/y in 2H26.

Summary

The UBS EM strategy highlights the need for tactical caution amid rising stagflation risks, while identifying opportunities in certain EM markets. Key focus areas include FX, equities, and credit, with a preference for China, Korea, and Taiwan. The document also emphasizes the importance of monitoring key macroeconomic indicators and upcoming events to guide investment decisions.