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Commodity Rally Sparks Jump in Emerging Currencies, Credit

Eric Lam and Abhishek Vishnoi
·3 min read

(Bloomberg) -- The rally in commodity prices is bolstering the outlook for emerging-market currencies and boosting parts of credit and stocks even as it fuels concerns about higher inflation.

The Bloomberg Commodity Spot Index has risen to the highest since 2012 after advancing 8.7% last month in the biggest jump since August. Many investors expect more gains as the world pulls out of the pandemic.

That’s helped lift the MSCI Emerging Markets Currency Index near a record after it surged 1.5% in April, the most this year. A gauge of global stocks has also continued up after increasing 4.2% last month, the best in four. Corporate debt from Asian metal and mining firms has outperformed, returning 2% in April compared with just 0.4% for broader Asian emerging-market dollar bonds.

Commodity-heavy equities and currencies of countries like Brazil, Mexico, South Africa, Malaysia and Indonesia are particular beneficiaries, Bloomberg Intelligence’s Gaurav Patankar said. Societe Generale SA notes that the climb signals economic strength that overall supports stocks, even as there are risks to profit margins from inflation.

The strength in commodities, which have surged 65% over the past year, is only set to intensify the debate about price increases. The cost of everything from copper to corn has surged, adding to inflationary pressures. Complicating the outlook is the possibility that further jumps may lead policy makers to taper the exceptional stimulus that’s buoyed markets.

The commodity rally is a double-edged sword for credit investors, said Mark Reade, head of fixed-income desk research at Mizuho Securities Asia. “While it’s clearly positive for the earnings of commodity producers and a sign of rebounding global growth, it could ultimately sow the seeds of higher inflation and earlier-than-expected central bank policy tightening.”

Vaccine rollouts and government policy support are stoking the global economic recovery.

The raw materials index and the currency gauge are moving in tandem more now than at the start of 2021, when a measure of 30-day correlation between the two came close to turning negative. In contrast, the correlation between global stocks and commodities is declining.

Still, some strategists and investors have continued to expect equities to perform well as a perceived hedge against inflation, as further price jumps could hit fixed-income markets as happened earlier this year.

Stock Outlook

“Equities, especially those with strong pricing power and reasonable valuations -- to avoid the valuation impact of higher rates -- are clearly better positioned than asset classes that do not provide inflation protection,” said Joshua Crabb, a senior money manager at Robeco in Hong Kong.

One key question is whether profit margins are vulnerable, leaving shares exposed amid rich valuations. Societe Generale’s Head of Asia Equity Strategy Frank Benzimra argues equities can still move up alongside commodities.

“Yes, you can see input prices rising, but bear in mind why it is the case -- because growth is bouncing,” he said. “The net effect for corporate earnings is positive.”

In bonds, benchmark 10-year Treasury yields have climbed about 70 basis points this year. But the debt selloff paused in April despite a strong month for commodities, as investors mulled whether price pressures would be transitory.

“The global output gap remains wide which should help keep inflation in check,” said Mary Nicola, portfolio manager, global multi-asset with PineBridge Investments.

Some analysts see room for at least a moderate rise in yields from the current 1.6% level.

“The ongoing recovery will factor into bond yields,” said John Woods, Asia-Pacific chief investment officer at Credit Suisse Group AG, who expects the 10-year U.S. yield to climb up to 1.8% in three months.

(Updates with corporate debt moves)

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