Investors are piling into emerging-markets currencies, spurred by expectations that the Federal Reserve will soon cut interest rates.
Through Monday, the MSCI Emerging Markets Currencies Index has risen 1.9% since early last month, following Fed Chairman Jerome Powell’s signals that U.S. policy makers were considering cutting rates. Through Tuesday, the Brazilian real has climbed 2.2% against the dollar, the South African rand has risen 5.3% and the Mexican peso has gained 2% in the period.
The Fed’s shift has bolstered risk tolerance among many investors while also putting downward pressure on U.S. government-bond yields, which are among the highest in the developed world. Lower bond yields can increase the allure of foreign assets, particularly in emerging markets, where investors often take on greater risk in exchange for higher yields and returns.
“It’s very much Fed related,” said Tim Alt, who manages currencies at Aviva Investors. “That has forced people into emerging markets where there still are relatively high interest rates.”
The yield on the benchmark 10-year Treasury note settled Tuesday at 2.074%, up from 2.043% Monday. It has fallen from 2.684% at the end of last year.
The WSJ Dollar Index rose for the third consecutive session, climbing 0.4% to 90.47.
Emerging-markets currencies posted uneven performances earlier this year, buffeted by the reverberations from trade tensions between the U.S. and China. Developing countries that export commodities to China, such as copper and aluminum, have struggled as the two largest economies levied reciprocal tariffs, raising prices on consumer goods and slowing demand.
Fed officials have said they are examining the potential for lower rates to sustain the U.S. economy as the pace of global economic growth has decelerated. The International Monetary Fund said Tuesday it is lowering its world-wide growth forecast this year because of the slowdown in global trade. The IMF is predicting a 3.2% expansion this year, down from last year’s growth rate of 3.6%.
The Fed is one of many central banks around the world that is contemplating reducing rates or already has. The European Central Bank is scheduled to meet Thursday and investors expect officials to discuss plans to cut rates and resume asset purchases. Central banks in Australia, New Zealand and Korea already have lowered rates this year.
The currencies of countries that have the greatest exposure to the Chinese economy may not appreciate at the same pace as those that are less connected to China.
“This is one of the reasons why I’m willing to overlook some of the uncertainties about global growth,” said Paresh Upadhyaya, who manages currencies at Amundi Pioneer. Mr. Upadhyaya has bet that currencies from India, Indonesia, Mexico and Colombia, which have fewer linkages, will rise against the U.S. dollar.
Some analysts say that gains in emerging-markets currencies may be based on expectations that the Fed intends to cut interest rates several times this year, and that recent strong U.S. data may make this impractical. Federal-funds futures, which investors use to bet on central-bank rate-setting policies, show better-than-even probability that the Fed cuts rates three times this year.
That many cuts during at a time when the economy is still growing at a steady pace is “hard to believe,” said Win Thin, a currency analyst at Brown Brothers Harriman.
Write to Daniel Kruger at Daniel.Kruger@wsj.com
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