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The US dollar is falling, but some investors are betting that emerging market currencies will be the big winners of a sustained turnaround in the US currency.

Expectations that the Fed will ease the pace of interest rate hikes have strengthened the case for investors betting on emerging market currencies. Emerging market currencies have outperformed their developed market counterparts this year, with the index down 5% since the start of the year. Some emerging markets offer attractive yields even when adjusted for inflation, for example: the inflation-adjusted yield on 10-year US Treasuries is 1.08% and the Brazilian equivalent is 6.07%.

China

Investors are excited about the idea of changing China’s COVID-19 policy after rare street protests increased pressure on officials to relax some rules.

“I think the situation is better. China cannot go back to its restrictive Zero-COVID policy.” This was reported by Jack McIntyre, a manager at Brandywine Global. Jerome Powell, Fed Chairman, reported that it is time to slow the pace of interest rate hikes. But the central bank may raise rates more as it battles the worst inflation in decades.

The central bank may tighten rates because of the global recession, a situation that could hurt emerging market currencies. Aaron Hurd, a manager at State Street Global Advisors, says: “A global slowdown could create a safe-haven bid and limit the ability of a lot of currencies to rise against the dollar.” But others are betting that China’s reopening bodes well for some emerging market currencies.

Analysts at Société Générale said the easing of China’s COVID measures could support the South African rand. In their latest report, they wrote: “Improving fundamentals, valuation and technical factors point to a stronger EM FX performance in 2023.”