Equity Analysis /
Global

How to hedge EM currency risk through bank equities

  • The problem: USD strength is a headwind for EM equities investors.

  • The solution: EM banks can provide a partial currency hedge.

  • We highlight CIB, Equity, GTB and VCB as attractively valued currency hedges in markets where this could be helpful.

How to hedge EM currency risk through bank equities
Rahul Shah
Rahul Shah

Head of Corporate & Thematic Research

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Rohit Kumar
Rohit Kumar

Global Financials/Thematics

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Tellimer Research
23 March 2020
Published byTellimer Research

The problem: USD strength is a headwind for EM equities investors. Heightened investor risk aversion and tighter liquidity have driven a sharp appreciation in the US dollar in the past couple of weeks. This is putting pressure on emerging market currencies (particularly those linked to commodity prices), which in turn places a further negative spin on the USD-denominated portfolio performance of international EM equities investors.

The solution: EM banks can provide a partial currency hedge. Equity investors may be able to hedge some of the inherent currency risk in their portfolios by including banks that are net-long foreign currency. Some of these names are also high-quality franchises at heavily-discounted valuations, such as CIB (Egypt), Equity Bank (Kenya), GTB (Nigeria) and VCB (Vietnam).

Highlighting the best hedging opportunities. In Table 1 we highlight the best and worst currency hedges among bank equities in selected EM markets. In Figure 2 we rank our coverage universe by net FCY exposure. In Figure 3 we extend this analysis by adding a quality indicator – net FCY exposure through US-Treasuries can be considered higher quality than through FCY loans to local companies, for example. Banks with sizeable high-quality net-long positions include Faisal (Egypt) and Standard Chartered Ghana.

Where are currency hedges most needed? Table 2 highlights EM currencies within our coverage markets that may be at risk of depreciation, considering their current valuations and various risk indicators; PKR, EGP, RWF, SLR and VND scan poorly on this basis.

Our shortlist. Based on these factors, and our fundamental views regarding franchise quality, outlook and valuation, we see the following as attractively valued currency hedges in markets where such an approach could be helpful:

  • COMI EY is the largest private sector bank in Egypt with a track record of generating value through the cycle.
  • EQBNK KN has a strong retail and SME-focused franchise and a strong technology platform.
  • GUARANTY NL generates some of the best operating metrics in Africa, and has successfully negotiated previous devaluation episodes.
  • VCB VN is one of the best banking franchises in Vietnam, with an extensive distribution network and a strong asset-quality track record.
  • Small-cap names worth highlighting include BSPB RX, FAIT EY, SCB GN.
Selected attractive currency hedges
Large capMkt Cap (USD mn)RatingETR2020 PE2020 PB2020 ROE2020 DY 

COMI EY

6,343

EW

41%

8.5

1.69

21.6%

2.0%

EQBNK KN

1,362

Buy

26%

5.8

1.07

18.5%

6.2%

GUARANTY NL

1,480

Buy

162%

2.9

0.68

25.3%

16.1%

VCB VN

9,009

Acc.

67%

10.4

2.04

24.2%

1.4%

Top picks median

 

 

54%

7.2

1.38

22.9%

4.1%

Coverage median

 

 

64%

4.5

0.67

15.0%

7.0%

Source: Tellimer Research, Bloomberg. EW=Equalweight, Acc.=Accumulate