Trump’s policy risks aren’t priced in in emerging markets

Investing.com — Emerging markets are not yet pricing in the potential impact of a return to Trump-era U.S. policies, including higher tariffs and elevated interest rates, Morgan Stanley (NYSE:) said in a note

Morgan Stanley expects market reactions in emerging economies to be shaped by fears of stricter trade policies and tighter U.S. monetary conditions before clarity on policy timing and scale emerges.

This uncertainty may cause EM assets to move more in sync, delaying differentiation between economies with stronger fundamentals.

However, spillover benefits from U.S. fiscal and supply-side, along with reduced geopolitical risks, could provide some offset.

“EM should benefit – to varying degrees – from a positive fiscal and deregulation growth shock to the US economy. But it is equally likely to worry about where the policy shots on tariffs, immigration and US’ broader geopolitical engagement might land. And like in goalkeeping, there will be many trade offs to consider, including between moving early and moving in the correct direction,” analyst said

Countries with higher real rate buffers, less reliance on global capital flows, stronger institutions, and greater domestic demand could weather the challenges better.

EM currencies will be under pressure, with the Thai baht (THB), (CNY), and South Korean won (KRW) among the most vulnerable. Variability in EM FX performance is expected to be high, reflecting uncertainties in U.S. policy timing and magnitude.

EM sovereign credit, particularly high-yield, may face headwinds due to rising U.S. yields and tight spreads, limiting upside potential. Investment-grade sovereigns may fare slightly better, benefiting from relatively attractive valuations.