Quarterly Currency Outlook - Emerging Markets MarketQuants Research Quarterly - 2017 Q3 - tac economics

 
Quarterly Currency Outlook - Emerging Markets MarketQuants Research Quarterly - 2017 Q3 - tac economics
Emerging Markets
Quarterly Currency Outlook
MarketQuants Research
Quarterly - 2017 Q3
Quarterly Currency Outlook - Emerging Markets MarketQuants Research Quarterly - 2017 Q3 - tac economics
Completed on July 24, 2017

TAC ECONOMICS
www.taceconomics.com
Quarterly Currency Outlook – EM MarketQuant Research                                                                                            2017 Q3

Content

1.    Key elements of background for EM currencies ...................................................................... 4

2.    Detailed Currency Outlook ...................................................................................................... 5
      Summary tables .................................................................................................................................... 5
      Brazilian Real - BRL................................................................................................................................ 6
      Chinese Yuan - CNY ............................................................................................................................... 7
      Indian Rupee - INR ................................................................................................................................ 8
      Indonesian Rupiah - IDR........................................................................................................................ 9
      Korean Won - KRW ............................................................................................................................. 10
      Mexican Peso - MXN ........................................................................................................................... 11
      Polish Zloty - PLN ................................................................................................................................ 12
      Russian Rubble - RUB .......................................................................................................................... 13
      South African Rand - ZAR .................................................................................................................... 14
      Turkish Lira - TRY................................................................................................................................. 15

3.    Methodology.......................................................................................................................... 16

TAC ECONOMICS
www.taceconomics.com                                                                                                                                      3
Quarterly Currency Outlook – EM MarketQuant Research                                                      2017 Q3

1. Key elements of background for EM currencies

Our global scenarios describe commodity prices              remained positively oriented over the past months.
moving back upwards over the coming months and US           Though certainly not impressive by historical EM
administration delivering its fiscal boost, thus creating   standards, aggregate industrial production has
a period of accelerating activity in mature economies       accelerated (irregularly) since the troughs of early
and favorable external circumstances for emerging           2016 and the latest (more negative) readings are not
markets (EM). Indeed, international trade continues to      enough yet to break the trend.
accelerate, in volume terms, overall monetary policies
                                                            The firming growth scenario is associated with more
in most EM remain loose and the effects of the rapid
                                                            uncertainties regarding inflation, though pressures are
2015-16 decline in interest rates are in now in full
                                                            limited over the short-term by the softness in
swing.
                                                            commodity prices and stronger exchange rates. This
In parallel, EM are not currently exhibiting worrying       was accompanied by declining bond yields (in EM local
signs of overall exchange rate overvaluation, a critical    currencies) suggesting no immediate pressure on
difference with 2011-13: they are therefore (on             monetary policy makers. The research on inflation
average) much less sensitive to the modest                  points to a “transition period” where easing becomes
forthcoming rise in US interest rates, and capital flows    more problematic though tightening is not yet
are not expected to revert substantially over the next      required.
quarters. Associated with the trade acceleration and
                                                            Our 2-year forward looking Risk ratings have however
our assumption of stabilizing / increasing commodity
                                                            deteriorated from end-2015 to early 2017, hence
prices, this translates into a reversal in the overall EM
                                                            pointing     towards    progressively    rising   risk
balance of payments. IMF projections suggest that the
                                                            materialization next year. Including renewed
major decline seen since 2013 has reverted in 2016
                                                            pressures on EM currencies. A key stabilizing factor
pushing the balance of payment close to zero this year
                                                            remains however our underlying assumption of a
and in 2018.
                                                            broadly weaker US dollar against most currencies (and
     TAC ECONOMICS Foreign Exchange Balance                 our models suggest so for the EUR/USD, though not
          average on 10 key EM countries                    above current level except during short periods, i.e.
                                                            with a neutral range in-between 1.10 and 1.15 for
                                                            most of the next quarters.

                                   Source: TAC ECONOMICS

Our positive cyclical view is supported by both
coincident and forward-looking indicators that have

TAC ECONOMICS
www.taceconomics.com                                                                                             4
Quarterly Currency Outlook – EM MarketQuant Research                                               2017 Q3

2. Detailed Currency Outlook
    Summary tables
                              Exchange Rate Forecasts for December 2018
                                    (month average against Euro)

                                            Spot rate            Mixture model
                                        July 24, 2017                    mode      75% confidence interval

Brazilian Real (BRL)                              3.65                      3.76                   3.3 - 4.4

Chinese Yuan (CNY)                                7.86                      7.29                   6.6 - 8.1

Indian Rupee (INR)                                75.0                      79.5                 76.2 - 82.8

Indonesian Rupiah (IDR)                         15 516                  15 063             12 778 - 17 458

Korean Won (KRW)                                 1 299                     1 256               1 092 - 1 424

Mexican Peso (MXN)                                20.6                      21.7                 20.1 - 23.5

Polish Zloty (PLN)                                4.24                      4.29                     4 - 4.5

Russian Ruble (RUB)                               69.9                      67.0                 58.7 - 76.6

South African Rand (ZAR)                          15.1                      17.3                 15.9 - 18.6

Turkish Lira (TRY)                                4.14                       4.0                   3.4 - 4.8

                               Cross-Rates Forecasts for December 2018
                                           (month average)
              BRL      CNY     INR       IDR       KRW    MXN        PLN       RUB      ZAR         TRY

   USD        3.39     6.57    71.6    13 570     1 132   19.5      3.86       60.4     15.6        3.60

   EUR        3.76     7.29    79.5    15 063     1 256   21.7      4.29       67.0     17.3        4.00

   BRL                 1.94    21.1     4 006     334.0   5.77      1.14       17.8     4.60        1.06

   CNY        0.52             10.9     2 066     172.3   2.98      0.59       9.19     2.37        0.55

   INR        0.05     0.09             189.5      15.8   0.27      0.05       0.84     0.22        0.05

   IDR        0.00     0.00    0.01                0.08   0.00      0.00       0.00     0.00        0.00

   KRW        0.00     0.01    0.06     12.0              0.02      0.00       0.05     0.01        0.00

   MXN        0.17     0.34    3.66     694.1      57.9             0.20       3.09     0.80        0.18

   PLN        0.88     1.70    18.5     3 511     292.8   5.06                 15.6     4.03        0.93

   RUB        0.06     0.11    1.19     224.8      18.7   0.32      0.06                0.26        0.06

   ZAR        0.22     0.42    4.60     870.7      72.6   1.25      0.25       3.87                 0.23

   TRY        0.94     1.82    19.9     3 766     314.0   5.43      1.07       16.8     4.33

TAC ECONOMICS
www.taceconomics.com                                                                                       5
Quarterly Currency Outlook – EM MarketQuant Research                                                             2017 Q3

Brazilian Real - BRL
 We expect the currency to slightly depreciate given the                       TAC ECONOMICS Projections
 ongoing rise in US real bond yields, which threatens to               (Mixed econometric and RiskMonitor approach)
 undermine EM FX in general, it has begun to head in the
                                                                                   Spot      Dec.       June          Dec.
 US's favor in recent months, which is negative for the
                                                                                 July 24     2017       2018          2018
 BRL. However, the Brazilian Real would remain close to
 BRL 3.40 against the USD, equivalent to BRL 3.76 against            EUR/BRL       3.65      3.78        3.74         3.76
 the Euro.

 Econometric Projections
 Banco Central do Brasil continues to ease its monetary
 policy this year, though with a more moderate path (cuts
 of 375pts since Dec. 2016 to 10.25% in May 2017), in line
 with falling inflation (+3.6% y/y in May 2017 after +4.1%
 in April). Hence, the currency has registered downward
 pressure since mid-May (-7.4% to 3.3 USD/BRL). The
 ongoing rise in US real bond yields, which threatens to
 undermine EM FX in general, should be globally negative
 for the BRL.

 RiskMonitor Analysis
 The Economic & Financial Risk rating has declined
 recently (to 49.3C), notably owing to a large rebound of
 the real economic pressure on the Cyclical Balance. In
 relation with the overvaluation of the Brazilian Real
 (BRL), the Watch List Indication confirms the significant
 depreciation / volatility ahead due to US Fed's rate hiking
 cycle. A more aggressive tightening could lead to a surge
 in the dollar relative to EM FX generally. However, on the
 Foreign Exchange Balance, the reappreciation of the Real
 until Feb. 2017 has led to the progressive deterioration
 of the exchange rate competitiveness; the currency
 registers a relative overvaluation of about +15% against
 its main competitors in 2017Q1. Meanwhile, the
 potential for recovery in commodity prices has acted as
 tailwind to the Real. The recent rally in iron ore and
 soybean prices providing a boost to Brazil's terms of
 trade (USD 7.6bn trade surplus in May followed by
 USD 7.2bn surplus in June) should be supportive of the
 BRL; though this can lead to deterioration of the
 exchange rate competitiveness in the near term.

 Consensus Projections
 end-of-period value against Euro*

                   Mean Divergence             Max         Min

  July 2017          3.60           9.1%        3.74       3.42
  Sept. 2017         3.60         12.5%         3.76       3.31
  June 2018          3.70         13.7%         3.93       3.42
  Dec. 2018          3.88
                                         Source: Consensus Inc.
 *The divergence index does not include the divergence on EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                                         6
Quarterly Currency Outlook – EM MarketQuant Research                                                           2017 Q3

Chinese Yuan - CNY
 Our tools signal a WatchList Indication on the Chinese                     TAC ECONOMICS Projections
 exchange rate; with a period of high vulnerability                  (Mixed econometric and RiskMonitor approach)
 starting in 2017Q3. However, the expected cyclical
                                                                               Spot        Dec.       June          Dec.
 stabilization for 2017 in China and the likely
                                                                             July 24       2017       2018          2018
 depreciation of the US Dollar would lead to the easing
 of pressures on the Yuan.                                        EUR/CNY       7.86       7.34        7.31         7.29
 The combination of approaches expects the Yuan to
 appreciate against the Euro, then to stabilize close to
 EUR/CNY 7.3.

 Econometric Projections
 The econometric model takes into account changes in the
 implicit basket partially announced by the Chinese
 authorities over the past years (with major currencies
 selected by our models being EUR, USD, JPY and KRW).
 The expected depreciation of the US Dollar and the
 Japanese Yen, and appreciation of the Euro would lead to
 a break in the trend depreciation of the Yuan observed
 since 2015. The Chinese currency has indeed stabilized
 against the US Dollar during 2017Q2 and is now expected
 to slightly appreciate to USD/CNY 6.7, equivalent to
 EUR/CNY 7.3.

 RiskMonitor Analysis
 The Economic & Financial Risk rating has improved in
 2017Q2 (to 40.6-C), thanks to the improvement on the
 Cyclical Balance. However, the progressive recovery of
 our leading index of domestic demand is consistent with
 a relative stabilization of cyclical growth over the short-
 term, accompanied by limited inflationary pressures.
 Meanwhile, the country remains in the domestic credit
 risk area on the Banking System Balance (excessive
 domestic leverage) and in the unsustainable
 overvaluation area on the Foreign Exchange Balance, due
 to a deterioration in forex reserves quality. This
 vulnerability is confirmed by the Watch List Indication on
 Exchange Rate. We believe that China will aim to keep
 the currency in a fairly tight grip to avoid a too big rise in
 USD/CNY to cause a protectionist response from the US,
 which could possibly further deteriorate the forex reserve
 quality.

 Consensus Projections
 end-of-period value against Euro*
                  Mean Divergence            Max         Min

 July 2017          7.58          3.9%       7.68       7.38
 Sept. 2017         7.63          4.1%       7.74       7.43
 June 2018          7.81         16.0%       8.55       7.30
 Dec. 2018          7.84
                                       Source: Consensus Inc.
 *The divergence index does not include the divergence on
 EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                                       7
Quarterly Currency Outlook – EM MarketQuant Research                                                            2017 Q3

Indian Rupee - INR
 The Indian Rupee has been very resilient among major                        TAC ECONOMICS Projections
 EM currencies over the past quarters, but this has                   (Mixed econometric and RiskMonitor approach)
 eroded its competitiveness and mechanically increased
                                                                                Spot        Dec.       June          Dec.
 its vulnerability. However, stabilizing inflation, steady
                                                                              July 24       2017       2018          2018
 monetary policy and improving economic performance
 remain supportive factors, resulting in a modest                  EUR/INR       75.0       76.5        76.1         79.5
 depreciation of the currency, just below USD/INR 70 or
 slightly above EUR/INR 75 in 2018.

 Econometric Projections
 After a significant appreciation in 2017Q1 (+5% against
 USD), the Indian Rupee has stabilized recently (around
 64.5 USD/INR in May-June). Bouts of mild depreciation
 could be triggered by shifts in global investor risk
 appetite and the return of inflationary pressures. We
 think excessive strength of the Indian rupee (INR) is
 unfavorable as the currency is too far from its
 fundamentals.

 RiskMonitor Analysis
 The Economic & Financial Risk rating has been relatively
 stable in the last 3 quarters (at 39.8-B in 2017Q2). On the
 Cyclical Balance, the demonetization of high-
 denomination currency notes (86% of cash) had a
 significant impact on the money supply dynamics, as
 evidenced by the massive but temporary fall in the
 monetary pressure; while the solid rebound of the real
 economic pressure augurs an improvement in the
 momentum of domestic demand in the coming quarters.
 On the Foreign Exchange Balance, the exchange rate
 competitiveness has slightly improved in 2017Q1, as
 others emerging markets’ currencies have reappreciated
 at a higher pace than the Indian Rupee in line with
 improving economic outlook and revived global risk
 appetite. Despite of a modest overvaluation (about
 +10%), the Central Bank (RBI) has been comfortable in
 managing forex reserves (USD 355bn) to limit
 depreciation risks in case of high financial volatility as this
 suggests that rising foreign reserves reflect a slower pace
 of appreciation in the INR.

 Consensus Projections
 end-of-period value against Euro*
                   Mean Divergence            Max         Min

 July 2017          71.2          3.3%        72.4       70.1
 Sept. 2017         71.5          5.4%        73.8       70.0
 June 2018          72.9          9.5%        77.2       70.3
 Dec. 2018          74.2
                                       Source: Consensus Inc.
 *The divergence index does not include the divergence on
 EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                                        8
Quarterly Currency Outlook – EM MarketQuant Research                                                         2017 Q3

Indonesian Rupiah - IDR
 Econometric and RiskMonitor models show divergent                        TAC ECONOMICS Projections
 projections for the Rupiah up to 2018-end.                        (Mixed econometric and RiskMonitor approach)
 Overall, the substantial overvaluation of IDR should                        Spot        Dec.       June          Dec.
 weigh on the currency and trigger a modest                                July 24       2017       2018          2018
 depreciation toward EUR/IDR 15 000 in 2018.
                                                                EUR/IDR     15 516     14 994     14 652      15 063
 Econometric Projections
 Indonesian Rupiah has traded within a relatively narrow
 band against the USD since the start of the year as Bank
 Indonesia (BI) has been actively intervening in the foreign
 exchange market to prevent appreciation of the
 currency. Limited inflationary pressures, stabilization of
 oil prices and low volatility (limited pass-through effects)
 should support the Rupiah over the next few quarters.

 RiskMonitor Analysis
 The Economic & Financial Risk rating has edged down at
 a rather positive level (39.3-B in 2017Q2). Moreover,
 declining risk ratings over longer horizons (notably on the
 exchange rate risk) suggest that short-term operational
 vulnerabilities are concentrated on corporates heavily
 indebted in foreign currency. On the Foreign Exchange
 Balance, the exchange rate competitiveness has further
 deteriorated in 2017Q1 (overvaluation of more than
 +20% against main competitors); associated with
 insufficient forex reserves quality, the latest position
 indicates a risk of depreciation in the medium term.
 However, BI’s deputy governor Sugeng confirmed in
 early-May that the central bank has been limiting Rupiah
 strength in a bid to preserve its export competitiveness,
 and also evident from the fact that foreign reserves
 climbed to a multi-year high of USD 122bn at the end of
 May. With US real bond yields likely to face continued
 downward pressure from declining long-term rate
 expectations, upside pressure on the Rupiah is likely to
 continue over the coming months; but we expect the
 central bank to maintain a tight grip on the currency and
 thus hold a neutral or depreciating view.

 Consensus Projections
 end-of-period value against Euro*
                  Mean Divergence           Max        Min

 July 2017       14 733          2.6%    14 968     14 585
 Sept. 2017      14 779          3.6%    14 970     14 436
 June 2018       14 989         10.3%    15 994     14 449
 Dec. 2018       15 120
                                     Source: Consensus Inc.
 *The divergence index does not include the divergence on
 EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                                     9
Quarterly Currency Outlook – EM MarketQuant Research                                                        2017 Q3

Korean Won - KRW
 The Korean Won has modestly reappreciated against                        TAC ECONOMICS Projections
 the USD over the past months, a result of favorable              (Mixed econometric and RiskMonitor approach)
 trade and growth readings, though it remained
                                                                             Spot       Dec.       June          Dec.
 vulnerable to worries related to China or North Korea.
                                                                           July 24      2017       2018          2018
 As long as the global cycle does not interrupt South
 Korea’s performances, the currency should remain               EUR/KRW     1 299      1 259       1 243         1 256
 strong against the USD, and almost stable against the
 Euro from early July’s levels (projection of EUR/KRW at
 1,256 at the end of 2018).

 Econometric Projections
 With a stable inflation outlook (below 2% annually and
 steady economic growth), the Korean Won is expected to
 remain firm with a target at KRW 1,090 against the USD
 at the end of 2018. As financial volatility is a significant
 factor in the model, any widespread financial
 deterioration or (by proxy) a major escalation in
 geopolitical threats could create temporary bouts of
 weaknesses.

 RiskMonitor Analysis
 South Korea’s Economic & Financial Risk rating continued
 to improve (41.2-C in 2017Q2), as a result of better
 Cyclical and Foreign Exchange Balances. For the latter, a
 technical “rebasing” of Korea’s foreign exchange
 competitiveness index has reflected the country’s
 continuous improvement in trade performances and
 brought the index back to neutral. The Cyclical Balance
 highlights accelerating domestic momentum in the short
 term, thanks to the confidence boost post-Presidential
 election and despite higher geopolitical threats, though
 vulnerabilities remain in longer term related to spillover
 effect of a potential reversal in the global cycle (US /
 China). Risk measures therefore suggest very limited risks
 of sustained depreciation, a possible short-term
 appreciation though low forex reserves quality implies
 potential volatility of the currency.

 Consensus Projections
 end-of-period value against Euro*

                  Mean Divergence           Max        Min

 July 2017        1 249          4.9%      1 278     1 217
 Sept. 2017       1 254          7.9%      1 300     1 201
 June 2018        1 271         13.9%      1 335     1 158
 Dec. 2018        1 280
                                     Source: Consensus Inc.
 *The divergence index does not include the divergence on
 EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                                 10
Quarterly Currency Outlook – EM MarketQuant Research                                                             2017 Q3

Mexican Peso - MXN

 After an episode of large overshooting (around US                             TAC ECONOMICS Projections
 Presidential election) and complete corrective reversal               (Mixed econometric and RiskMonitor approach)
 during 2017Q1, the Mexican Peso is now expected to
                                                                                   Spot      Dec.       June          Dec.
 register a modest depreciation towards USD/MXN 19.0
                                                                                 July 24     2017       2018          2018
 in 2018 (EUR/MXN 21.7 at the end of 2018).
                                                                     EUR/MXN       20.6      21.1        21.4         21.7
 Our Econometric and RiskMonitor projections are
 diverging again, with RiskMonitor putting more weight
 on the (large) remaining competitive undervaluation of
 the currency, while the equation suggests that a less
 benign international environment and mediocre
 domestic performances would feed depreciation
 pressures.

 Econometric Projections
 The Mexican Peso is highly sensitive to growth
 performances, inflation and “exogenous” factors such as
 financial volatility and oil prices. After the overshooting
 episode around the US Presidential election and
 subsequent reversal, the currency equation shows that
 mediocre growth and unimpressive price readings are
 going to weigh down on the exchange rate, in a context
 of higher financial volatility and only modestly higher oil
 prices. The econometric model continues to anticipate a
 medium-term level for the Peso around USD/MXN 19.0.

 RiskMonitor Analysis
 Mexico’s Economic & Financial Risk rating has been
 stable at a favorable level (33.2-B in 2017Q2), reflecting
 however two opposing movements, a modest
 improvement on the Foreign Exchange Balance
 compensated by a symmetric deterioration for the
 Liquidity Balance. Both suggest that forex reserves
 movements are critical and not yet fully supportive, while
 the competitive advantage shown by the MXN at current
 levels remains massive. This suggests a longer-term
 support for the exchange rate.

 Consensus Projections
 end-of-period value against Euro*

                   Mean Divergence             Max         Min

  July 2017          20.8           6.6%        21.5       20.1
  Sept. 2017         20.9           9.8%        21.9       19.8
  June 2018          21.3         10.8%         22.6       20.3
  Dec. 2018          21.3
                                         Source: Consensus Inc.
 *The divergence index does not include the divergence on EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                                     11
Quarterly Currency Outlook – EM MarketQuant Research                                                      2017 Q3

Polish Zloty - PLN

 Econometric and RiskMonitor tools converge in                         TAC ECONOMICS Projections
 suggesting a broadly stable exchange rate against the          (Mixed econometric and RiskMonitor approach)
 Euro over the next 18 months with end-2018 projected
                                                                          Spot        Dec.       June          Dec.
 values at PLN 4.29.
                                                                        July 24       2017       2018          2018
 However, dispersion (i.e. uncertainty) is much higher in
                                                             EUR/PLN       4.24       4.30        4.29         4.29
 RiskMonitor outputs, with a fatter tail for larger
 depreciation, suggesting underlying vulnerability to
 unfavorable news, either from domestic politics or from
 exogenous events, though the likely strength of the EUR
 against the USD and stronger EUZ growth will provide
 substantial support.

 Econometric Projections
 Accelerating domestic growth and the associated
 monetary tightening expected over the next 18 months
 (+75bp expected for money market rates between Jul.
 2017 and Dec. 2018), as well as the expected
 strengthening of EUR/USD rate would counteract
 potential pressure on the currency related to modestly
 higher inflation and episodes of tensions within the
 Eurozone (a key variable in our econometric model). The
 results are a EUR/PLN exchange rate that would remain
 broadly stable around 4.25-4.30 during most of the next
 18 months, a level slightly stronger than the previous
 econometric projections.

 RiskMonitor Analysis
 The Economic & Financial Risk rating has moderately
 improved (to 40.5-C), in line with the progressive
 strengthening on the Cyclical Balance, itself supporting
 the view of progressively tightening monetary policy. On
 the Foreign Exchange Balance, the Polish Zloty benefits
 from a highly competitive valuation, but forex reserves
 are more volatile and of lower quality, suggesting
 potential volatility of the currency. In parallel, poorer
 performances on the foreign Debt and Banking System
 Balances are still weighing on the currency outlook.

 Consensus Projections
 end-of-period value against Euro

                 Mean Divergence          Max        Min

 July 2017         4.20        3.7%       4.29       4.13
 Sept. 2017        4.19        3.6%       4.25       4.10
 June 2018         4.18        8.4%       4.30       3.95
 Dec. 2018         4.17
                                    Source: Consensus Inc.

TAC ECONOMICS
www.taceconomics.com                                                                                              12
Quarterly Currency Outlook – EM MarketQuant Research                                                        2017 Q3

Russian Rubble - RUB

 The 2017Q1 strengthening of the Russian currency gave                    TAC ECONOMICS Projections
 way to stabilization and then depreciation in June as oil        (Mixed econometric and RiskMonitor approach)
 prices failed to recover, with EUR/RUB pushed rapidly
                                                                             Spot       Dec.       June          Dec.
 to levels expected for end-2018. With an assumption of
                                                                           July 24      2017       2018          2018
 positive oil price reversal to 55-65$/bl in 2018 and
 stable interest rates in Russia, further depreciation is       EUR/RUB      69.9       64.5        65.2         67.0
 unlikely over the next 18 months beyond occasional
 bouts of higher volatility, with a target of EUR/RUB 67.0
 at end-2018.

 Econometric Projections
 Our econometric model captures the large influence of
 oil prices on the USD/RUB exchange rate: in this context,
 the decline in Brent prices induce a depreciation from
 RUB 56 to RUB 60 during June 2017. Our projection for a
 movement back towards 55-65$/bl for oil, in a context of
 stabilizing inflation and policy rates and the continuation
 of growth acceleration, points to rough stability
 compared to current levels. Taking into account the very
 large historical dispersion on oil prices, the MC simulation
 reveals an unusual flattish shape.

 RiskMonitor Analysis
 Russia’s average Economic & Financial Risk rating has
 stabilized at a low level (33.4-B) during the last quarter
 after a massive improvement since early 2016. The on-
 going economic recovery (though moderate), persistent
 current account surpluses and very large forex reserves
 are providing continuous support. However, the RUB has
 moved into a much less favorable exchange rate
 competitiveness level, with a 15% overvaluation, thereby
 entering the speculative overvaluation area in the
 Foreign Exchange Balance. Overall, RiskMonitor outputs
 are unusually “concentrated” with smaller tails than for
 most currencies and pointing to a roughly stable
 exchange rate against the Euro.

 Consensus Projections
 end-of-period value against Euro*

                  Mean Divergence           Max        Min

 July 2017         63.3          7.6%       65.7       60.9
 Sept. 2017        64.4          8.4%       66.6       61.2
 June 2018         65.7         17.2%       68.7       57.4
 Dec. 2018         66.3
                                     Source: Consensus Inc.
 *The divergence index does not include the divergence on
 EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                                13
Quarterly Currency Outlook – EM MarketQuant Research                                                       2017 Q3

South African Rand - ZAR
 The outlook for the South African Rand is the most                      TAC ECONOMICS Projections
 uncertain among key EM currencies, as shown by the              (Mixed econometric and RiskMonitor approach)
 divergence between econometric and RiskMonitor
                                                                            Spot       Dec.       June          Dec.
 outputs, and by the massive dispersion among
                                                                          July 24      2017       2018          2018
 forecasters. On one side, the improving forex liquidity
 and potential support to bond markets through the             EUR/ZAR      15.1       16.0        16.4         17.3
 recent cut in policy rates, as well as positive reversal in
 commodity prices, are substantial support to the
 currency; conversely, persistent inflation, subdued
 economic activity and increasing political challenges are
 major risk factors.
 This combination of opposing forces is likely to create
 short-term gyrations, with however a depreciation
 against the Euro, expected at ZAR 17.3 at end-2018.

 Econometric Projections
 The econometric projections are highly sensitive to the
 respective changes in inflation on one side, commodity
 prices on the other. Though this may be supportive in the
 short run, the equation indicates a stronger depreciation
 in 2018, with a USD/ZAR around ZAR 14.5 in 2018H1 and
 ZAR 15.1 at end-2018. Any decline in inflation or pick-up
 in commodity prices would limit the depreciation,
 especially if the USD is broadly weaker.

 RiskMonitor Analysis
 Outputs from RiskMonitor models show that the
 currency remains modestly undervalued on the Foreign
 Exchange Balance; with a strengthening Liquidity
 Balance, support for the currency comes from large
 interest differential, even after the surprise cut by the
 SARB on July as well as from potential improvement in
 the Growth Balance as external deficits are expected to
 decline. Overall, RiskMonitor would suggest a stability
 against the Euro for most of the period ahead, though a
 fatter tail on the depreciation side continues to highlight
 potential vulnerabilities, that can be related to growing
 political / confidence uncertainties.

 Consensus Projections
 end-of-period value against Euro*

                  Mean Divergence          Max        Min

 July 2017         14.7        21.2%       16.7       13.6
 Sept. 2017        15.0        28.9%       17.8       13.5
 June 2018         15.3        41.5%       19.6       13.2
 Dec. 2018         15.4
                                     Source: Consensus Inc.
 *The divergence index does not include the divergence on
 EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                               14
Quarterly Currency Outlook – EM MarketQuant Research                                                      2017 Q3

Turkish Lira - TRY
 The Turkish Lira (TRY) depreciated sharply until                       TAC ECONOMICS Projections
 February 2017, inducing a substantial improvement in           (Mixed econometric and RiskMonitor approach)
 competitiveness and in exports. Combined with
                                                                           Spot       Dec.       June          Dec.
 supportive domestic policies, economic growth has
                                                                         July 24      2017       2018          2018
 accelerated. In the short-term, this is providing support
 to TRY’s current level, and the target against the EUR at    EUR/TRY      4.14         3.9        4.0          4.0
 end-2018 is almost stable (TRY 4.0). However, both
 statistical outputs and political tensions suggest a high
 degree of vulnerability during this “blind run” period.

 Econometric Projections
 Our econometric model for the TRY suggests that after
 the large depreciation of 2017, the expected decline in
 inflationary pressures (though modest), low international
 financial volatility and strong export performances
 should induce a broad stabilization of the currency
 against the USD and hence a modest depreciation against
 the EUR. Considering the volatile characteristic of
 Turkey’s performances, the Monte Carlo simulations
 reveal a rather flat Gaussian curve.

 RiskMonitor Analysis
 The Economic & Financial Risk rating has been stable in
 the last quarter at a high level (57.3-C in 2017Q2). Poor
 positions on the Fundamental Balances, except on the
 Cyclical Balance, highlight high economic and financial
 vulnerabilities; this is confirmed by the WatchList
 Indication on the Economic Activity, suggesting a
 potential for significant adjustment in GDP growth from
 now to 2020Q1.
 The rapid depreciation of the TRY up to Feb. 2017 has
 improved the exchange rate competitiveness on the
 Foreign Exchange Balance. However, low forex reserves
 quality, related to substantial short-term fx funding of
 large fx borrowing requirements, indicates that the
 currency remains highly vulnerable to investors’
 confidence, in a context of increasing political /
 international uncertainties.

 Consensus Projections
 end-of-period value against Euro*

                 Mean Divergence           Max        Min

 July 2017         3.90        4.8%        4.02       3.83
 Sept. 2017        3.94       15.4%        4.41       3.80
 June 2018         4.13       32.1%        4.96       3.64
 Dec. 2018         4.10
                                     Source: Consensus Inc.
 *The divergence index does not include the divergence on
 EUR/USD.

TAC ECONOMICS
www.taceconomics.com                                                                                              15
Quarterly Currency Outlook – EM MarketQuant Research                                                          2017 Q3

3. Methodology

This document and the analysis on currency                      The second set of quantitative measures is based on
projections are based on the combination of two                 outputs from TAC ECONOMICS’ proprietary tool for
different sets of quantitative tools, associated with in-       country-risk assessment RiskMonitor. This tool is
depth qualitative review and process of “challenging            based on non-linear relations between economic
the models”.                                                    variables and degree of specific imbalances, and
                                                                between such imbalances and degree and nature of
A first set of quantitative tools uses traditional              risk, and is based on datamining techniques that do
econometric equations relating nominal exchange                 not require scenario construction on explanatory
rates (against the USD or EUR depending on the                  variable. RiskMonitor outputs including an Exchange
monetary / fx regime adopted by local authorities or            Rate Risk Rating, the level of which is associated with
de facto) with underlying macroeconomic variables               a non-gaussian distribution of probability for the
usually considered as having a large impact on EM               exchange rate. RiskMonitor also provides Early
currencies: this includes notably growth differential           Warning Signals for unexpected / systemic shocks,
(with mature economies) and outlook, inflation and              including on the currency value.
interest rates (including levels, changes and gaps with
US), sensitivity to overall risk appetite / aversion, and       The econometric equations and RiskMonitor outputs
commodity or oil prices. Estimations are calibrated on          are providing two different sets of probability
a long period (at least early 2000s) in order to capture        distribution at the 18-month ahead horizon. The
as best as possible trends and underlying forces. The           overall quantitative result and currency projection is
robust estimate is afterwards associated with Monte             based on a mixed model combining the two sets of
Carlo simulations based on observed ranges for                  probabilities with equal weighting.
explanatory variables and incorporating covariances
across variables.                                               Finally, the quantitative results are commented, and
                                                                sometime nuanced, by the more qualitative / policy
                                                                driven analysis on currency development and outlook.

Disclaimer

These assessments are, as always, subject to the disclaimer provided below.

This material is published by TAC ECONOMICS SAS for information purposes only and should not be regarded as
providing any specific advice. Recipients should make their own independent evaluation of this information and no
action should be taken, solely relying on it. This material should not be reproduced or disclosed without our consent.
It is not intended for distribution in any jurisdiction in which this would be prohibited. Whilst this information is
believed to be reliable, it has not been independently verified by TAC ECONOMICS and TAC ECONOMICS makes no
representation or warranty (express or implied) of any kind, as regards the accuracy or completeness of this
information, nor does it accept any responsibility or liability for any loss or damage arising in any way from any use
made of or reliance placed on, this information. Unless otherwise stated, any views, forecasts, or estimates are solely
those of TAC ECONOMICS, as of this date and are subject to change without notice.

TAC ECONOMICS
www.taceconomics.com                                                                                                16
Quarterly Currency Outlook – EM MarketQuant Research                                        2017 Q3

Your contacts at TAC ECONOMICS

Technical questions / hotline
TAC ECONOMICS team is available for any economic, financial, technical questions and requests at
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TAC ECONOMICS
www.taceconomics.com                                                                               17
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