Through July 2018, foreign currency Uridashi issuance totaled $5.8 bln. If this pace is sustained, the full year total of $10 bln would represent an increase from $8.8 bln in 2017 but would fall short of the $12.3 bln issued in 2016.However, EM Uridashi issuance totaled only $1.6 bln through July. If sustained, the full year total of $2.8 bln would represent a significant drop from $4.3 bln in 2017. Indeed, it would be the lowest EM issuance since the $2.7 bln total in 2008.
As always, we net out JPY-denominated issues in order to focus on the foreign currency aspects of the Uridashi market. Foreign currency-denominated issuance peaked at around $20 bln in 2010 and has since fallen steadily to $8.8 bln in 2017, the lowest since 2003.
The share of EM-denominated Uridashi bonds increased steadily from zero in 2003 to 46% in 2012 and 2013. The share then fell to 35% in 2014 but then recovered to 43% in 2015 and rose even further to a record high 50% in 2017. That makes the sharp drop to 28% so far in 2018 all the more noteworthy, and this potential trend change bears watching as it seems to reflect broad-based negative global sentiment on EM.
The growth in EM Uridashi issuance over the past 10+ years came at the expense of DM stalwarts AUD and NZD. The share of these two currencies of total non-JPY Uridashi issuance peaked at nearly 80% in 2006, but fell steadily to around 31% in 2013. The antipodean share has since fluctuated but remains low, coming in just below 30% in 2018 (so far). Rather, the US dollar has crowded out EM by accounting for a whopping 45% of total non-JPY issuance so far this year. This is the highest share on record.
EM CURRENCY BREAKDOWN
TRY has a 50% share of total EM issuance so far in 2018, up from 31% in 2017. Its average share from 2005-2017 was 16%. Political risk remains an ongoing issue, as does high external vulnerabilities. However, Japan investors appear to be overlooking this as the central bank has tightened monetary policy in recent months. However, more needs to be done.
BRL has a 24% share of total EM issuance so far in 2018, up from 15% in 2017. Its average share from 2005-2017 was 26%. Brazil short-term interest rates have fallen sharply, but do not appear to have hurt the real’s attractiveness. That may change as political risk picks up ahead of the October elections, but this will likely be offset by the start of a tightening cycle this fall.
ZAR has a 3% share of total EM issuance so far in 2018, down from 6% 2017. Its average share from 2005-2017 was 36%. The SARB restarted the easing cycle in March, which further eroded the rand’s attractiveness. Despite Zuma’s ouster, we still see political risk ahead. Coupled with poor fundamentals, the rand should continue to suffer.
MXN has an 6% share of total EM issuance so far in 2018, down from 16% in 2017. Its average share from 2005-2017 was 10%. Fundamentals are solid, but it appears the peso has not benefitted much from Banco de Mexico’s tightening cycle. Political risk remains high until incoming President AMLO’s policies become known.
RUB has a 3% share of total EM issuance so far in 2018, down from 11% in 2017. Its average share from 2005-2017 was 3%. The ruble could get some more traction if oil prices resume their recent rally. However, the central bank has cut rates over the past year, likely eroding the ruble’s allure.
Taken together, these five EM currencies make up 85% of the EM Uridashi issuance so far in 2018. This is up from 75% in 2015 and 2016 (the lowest share on record) and nearly 80% in 2018. From 2005-2013, these five rarely accounted for less than 95% of the total EM Uridashi issuance, and were typically in the 98-99% range.
What changed? Clearly, high yielding ZAR is no longer as attractive to Japanese investors as it once was due to deteriorating fundamentals, falling significantly below its longer-term average share since 2013. MXN has also seen its share fall below the long-term averages in recent years. Of this main group, TRY is seeing the biggest positive divergence so far this year from its longer-term average while BRL and RUB are tracking close to their longer-term averages.
Most significantly, INR continues to get a larger than usual share. That share stands at 13% so far in 2018, down from nearly 20% from 2015-2017 but still well above its longer-term average of 6% from 2005-2017. It’s also worth noting that IDR had seen its share grow to 5-6% from 2014-2016 vs. the 2% longer-term average from 2005-2017. However, its share has fallen back to 2% in 2017 and 1% so far in 2018.
Marketed to retail investors, Uridashi bonds represent a small slice of the FX market, but we believe that the observed trends in this segment can reflect those of the larger Japan investment community as well. Given that near-zero rates in much of the DM should persist well into 2017, and given relatively high interest rates still seen in EM, we think that Japanese flows into EM bonds could resume cautiously in the coming months. While the global backdrop should remain conducive to higher yielding currencies, any intensification of Fed tightening concerns could cause more disruptions in the global financial markets.