Emerging Markets Currencies Gain as Investors Anticipate Fed Rate Cut

Emerging-market currencies edged higher on Tuesday as bond traders anticipated the Federal Reserve will initiate its interest-rate cutting cycle with a 50-basis-point reduction. The MSCI index for developing nation currencies closed 0.06% higher, marking its fifth consecutive session of gains. Meanwhile, US treasury yields climbed, and the dollar advanced.

Investors Bet on Significant Fed Action

Anticipation of a Dovish Fed

The market-implied odds of the Fed delivering a half-point reduction were around 55% on Tuesday, following an unexpected rise in US retail sales in August, which signaled resilient household demand. However, the data failed to settle speculation over the magnitude of the central bank's decision on Wednesday.Mark McCormick, global head of FX and EM strategy at TD Securities, noted that the US data, on the whole, is not highly impactful for the Fed meeting, and he believes the data will push central bankers toward a smaller-sized cut.

Emerging Currencies Gain Amid Risk-On Sentiment

Malaysia's ringgit, Mexico's peso, and Peru's sol led the gains among emerging currencies, buoyed by the risk-on sentiment over the Fed's anticipated pivot. Mexico's currency reversed its earlier losses and inched higher against the dollar, despite some pessimism over President Andres Manuel Lopez Obrador's controversial judicial reform.In contrast, Chile's peso and Turkey's lira weakened. Chile's currency fell against the greenback as copper prices wavered, while the lira slid as expectations mount that Turkey's central bank will be slow to cut interest rates, with its next meeting scheduled for Thursday.

Equity Markets Advance

In the equity markets, an index of emerging market stocks advanced for a fourth consecutive session, closing 0.41% higher. The gains were led by Tencent Holdings Ltd., Alibaba Group Holding Ltd., and China Construction Bank Corp.

Credit Markets Respond to Regional Developments

In the credit markets, Egypt's dollar bonds rallied after Cairo announced that Saudi Arabia's sovereign wealth fund is poised to invest $5 billion, the latest round of Gulf funding for the North African nation as it emerges from its worst economic crisis in decades. Citigroup sees upside potential in Sri Lanka's dollar bonds, regardless of the country's election outcome, expecting the final recovery value to be above current prices.Meanwhile, devastating floods rocked the Central and Eastern European region, handing another blow to economies still reeling from a series of shocks, including the energy crisis and global trade disruptions. The government in Warsaw will prepare a reconstruction plan for the affected regions, using funds from the state budget and the European Union, while the Czech cabinet signaled it may need to amend the budget, although it did not provide a specific estimate of the damages.