Jean-Claude Trichet, EM c.bankers’ new friend

February 2, 2011

What a friend emerging central bankers have in Jean-Claude Trichet. Last month the ECB boss stopped euro bears in their tracks by unexpectedly signalling concern over inflation in the euro zone. Since then the euro has pushed steadily higher  — against the dollar of course, but also against emerging currencies. The bet now is that interest rates — and the yield on euro investments — will start rising some time this year, possibly as early as this summer.

That’s ptrichetrovided some relief to central banks in the developing world who have struggled for months to stem the relentless rise in their currencies.

Being short euro versus emerging currencies was a popular investment theme at the start of 2011, partly because of EM strength but also because of the euro zone debt crisis. “What that also means is that people who were short euro against emerging currencies had to get out of those positions really fast,” says Manik Narain, a strategist at investment bank UBS. Check out the Turkish lira — that’s fallen around 5 percent against the euro since Trichet’s Jan 13 comments and is at the highest in over a year. South Africa’s rand is down 6 percent too. Moves in other crosses have been less dramatic but the euro’s star is definitely in the ascendant. The short EM trade versus the euro  has more room to run, Narain reckons.

But emerging central bankers can take some of the credit for their currencies’ recent weakness. Many have dragged their feet on tightening monetary policy — Indonesia, Chile and Russia were among those that surprised markets last month by not raising interest rates; Turkey went a step further and cut rates. To some extent that has worked — fears of an inflation spiral are pushing cash out of emerging stock and bond markets.

Expectations are Trichet will retain his hawkish tone at this Thursday’s ECB meeting. Emerging central bankers will certainly be hoping that he does.

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