US Dollar Assets "Out of Favor"? Bank of America Bullish on Emerging Markets Again: Double-Digit Gains Likely This Year

Bank of America Securities recently stated that, based on expectations of a continued depreciation of the US dollar, emerging market assets are expected to achieve double-digit returns this year.

"We can easily maintain double-digit returns this year because we believe the US dollar is the most important driver and that US long-term bonds will stabilize," said David Hauner, head of Global Emerging Markets Fixed Income Strategy at BofA Securities.

BofA Securities is optimistic about Eastern European currencies and stocks. "Against the backdrop of a weakening US dollar, the euro is the best-performing major currency, which generally implies that currencies across the European time zone should perform best, as these currencies benefit the most when the euro appreciates," Hauner said.

Hauner also noted that, in terms of fixed income, Brazil remains his top pick due to its very high interest rates and the possibility of interest rate cuts before the end of the year.

Currently, the US dollar exchange rate is near a two-year low. Several Wall Street investment banks, including Morgan Stanley and JPMorgan Chase, expect the US dollar to weaken further due to possible interest rate cuts by the US Fed, a slowdown in US economic growth, and ongoing uncertainties in fiscal and trade policies. This could accelerate the flow of funds from US assets to developing countries.

So far this year, the rebound in emerging markets has been mainly supported by local currency bonds and stocks. Domestic sovereign bonds have already delivered an average total return of 5.7% for investors, with Brazil's carry trade frenzy driving a 20% gain. Returns in 10 other countries have also reached or exceeded 10%.

Meanwhile, emerging market stock markets have ended a seven-year underperformance streak relative to the US market. Led by China and India, the MSCI Emerging Markets Index has outperformed the S&P 500 Index by 7%.

Despite the positive returns on emerging market assets this year, Hauner said that investors' positions in emerging market asset classes remain light, a situation that could change in the coming months.

"People need to see several consecutive months of upside surprises from emerging markets, right?" Hauner said. "They've lost a lot of money in emerging market assets in the past, so, you know, they just need to gradually build more confidence over time."

Bank of America also recently predicted that emerging markets will usher in a "new bull market." A team of BofA strategists led by Michael Hartnett stated in a report at the time, "A weaker US dollar, US bond yields peaking, China's economic recovery... nothing is better for the outlook of emerging market stocks."

According to a recent report from the bank, global equity markets experienced the largest weekly net outflow of funds for the year in the week ending May 28, amounting to as much as $9.5 billion, while emerging market stocks saw the largest net inflow of funds for the year, totaling $2 billion, during the same period.