EM Stocks Surge on Mexico Tariff Relief

On February 5, emerging market equities and currencies experienced a significant rebound in response to alleviated concerns regarding US President Donald Trump’s tariff threats, which had sparked fears of a broad trade conflictAfter a tumultuous trading week, with traders speculating how tariffs could ignite tensions, a noticeable shift occurred when the US president announced a temporary delay on tariffs imposed on Canada and Mexico.

The MSCI Emerging Markets stock index surged by 1.7% on that Tuesday, marking the largest increase since October of the previous yearConcurrently, the Bloomberg Dollar Spot Index declined by 0.7%, halting a six-day streak of gains that had pressured other currenciesThis combined rise in price and drop in the dollar highlighted investor optimism and market recovery, bringing relief to many in the emerging markets.

One pivotal factor contributing to this market surge was the US president's decision to postpone the application of a 25% tariff on both Canada and Mexico, a strategic maneuver aimed at negotiating stricter border controls

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This announcement came on the heels of a phone call between President Trump and Mexican President Andrés Manuel López ObradorFollowing their discussion, both leaders revealed their agreement to delay additional tariffs for a month while negotiations continueShortly thereafter, Canadian Prime Minister Justin Trudeau echoed this sentiment, stating that Canada would also benefit from an indefinite postponement of tariffs, alleviating fears of retaliatory tariffs against American goods.

As Sam Stovall, Chief Investment Strategist at CFRA Research, pointed out, the president’s swift concession to Mexico and Canada might be more about creating a premature “victory” narrative rather than making substantial changes to trade dynamicsThe psychological impact on investors was palpable, as Stovall noted, “Today investors have breathed a sigh of relief, but we shall see if that continues in a month.”

Looking at currency movements, the Chilean peso emerged as the strongest performer among Latin American currencies, driven by rising copper prices—the country’s primary export

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The currency climbed to its highest level since December of the previous yearIn Asia, the Malaysian ringgit and Thai baht also led gains, while the offshore Chinese yuan regained ground, rebounding from significant declines just prior to the Chinese New Year.

In the US, the stock markets also displayed robust activity on February 4, with all three major indices rising sharply, continuing the recovery following a volatile trading session earlier in the weekStrong corporate earnings buoyed investor confidence, with 76.8% of the S&P 500 companies reporting fourth-quarter earnings that exceeded analysts' expectations, showcasing resilience in the face of tariff uncertainty.

The delayed tariffs provided a breather for US Treasury prices, which had been under pressure over fears that increased tariffs could lead to higher inflationThe price of 10-year Treasuries saw a rebound, with yields declining by 2.8 basis points to 4.515%, pulling back from a recent low not seen since mid-December

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In line with changing market sentiments, futures trading indicated that investors anticipated roughly 46 basis points of rate cuts from the Federal Reserve later in the year, suggesting a cautious outlook as the situation evolves.

However, despite this temporary reprieve, analysts caution that long-term global trade tensions are still loomingThe volatile nature of tariffs means market reactions could remain sensitive to future developmentsLawrence Gillum, Chief Fixed Income Strategist at LPL Financial, noted that over the coming quarters, markets will continuously weigh practical policy measures against threats, resulting in ongoing fluctuations.

Market sentiments appear overly optimistic, with some experts like Brad Bechtel, Global Head of FX Strategy at Jefferies, warning against complacencyHe remarked, “The current assumptions in the market seem to suggest that the issues are resolved, allowing us to move forward, but we must remember this is merely a 30-day pause.” Furthermore, Piotr Matys, a senior analyst at inTouch Capital Markets, emphasized the potential volatility for emerging market currencies in response to any remarks from the US president or trade representatives in the near future.

While tensions with Canada and Mexico have temporarily eased, the threat of heightened tariffs remains a possibility

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Strategists at Deutsche Bank and Mizuho Securities speculate that additional tariffs could bolster the US dollar and that Europe might become the next focal point of Trump’s trade-related attentionAs Antje Praefcke, a senior FX analyst at Deutsche Bank, remarked, “As long as the American president showcases his might on the global stage, who would dare to short the dollar? The next shock is sure to come, and it is likely to favor the dollar again.”

On the options market, indicators measuring dollar sentiment still hover near their highest levels in seven monthsAnalysts from JPMorgan, including Patrick Locke, have indicated that there is no evidence yet of widespread liquidation of dollar bullish positions in the derivatives marketThe Bloomberg Dollar Index, which had already seen about a 4% increase overall, suggested traders were betting on further dollar appreciation based on expectations that Trump’s policies could stimulate economic growth and reignite inflation