EFTA Document EFTA01379445

11 December 2017 Special Report EMFX Outlook 2018: Growth-led Revaluation Equity allocations near historical lows still Em•egung Afmkist$ tun Etre/010 WeIgn 51'15104r CI.,. .7-4 fl ea:W:0, 22 21 20 10 10 17 16 15 14 13 12 i 11 2008 Fa 2010 2011 2012 2013 2014 201$ 2016 2017 Se.50t 4/417 4444.inann.k4414, mon., Ainl, arn ETI4 Sway Onsals8•11. EPFlt stun, nAgen am/An andET44 . 2. EM FX valuations are still attractive According to our preferred DBeer model (which models FX as a function of inflation, terms of trade and productivity) EM r< is needy urid,,,Norued in aggregate (chart). The overall undervaluation of EM currencies despite their appreciation relative to the USD reflects EM FX's loss of ground relative to the EUR (and other GI0 currencies). Accordingly, on a trade-weighted basis (which underpins valuation estimations) the rally has been limited this year. More importantly, periods of significant undervaluation tend to be corrected amidst higher EM growth and more restrictive monetary conditions - both of which we expect will be in place next year as real rates also seem to have bottomed in EM. EM EX is still significantly undervalued 12 4 0 Ciate •••••renentIlli7 boos. •4 AE — EMEA St 1. EM FX unilinithad . .1•11/1111 rt • 1 .12 01 02 03 04 06 06 07 08 00 10 11 12 13 14 15 16 17 Sarno Ontath• an Nor. EA✓I f X sonviilb. 4••• • inward •••••••••••••• • no In addition, USD strength and hedging demand feeil unlikely to disrupt EM FX revaluation. DB foresees EUR/USD at 1.20 in 2018 and higher in 2019. If anything, more synchronized and faster growth Page 4 reduces policy imbalances (supporting ECB catch-up), which has been associated with EUR strength (chart). Absent USD strength, FX-hedging demand should remain subdued as long as US inflation is contained - a risk likely to increase later in the year, however. The USD could still be supportive in 2013 Coe of war. of supsOr r1 •1 I At 01 • 1 01 1.1 19 Intnaan4 wt.:00004cl, tan Deng an Olownin frnlP DetO•150 SlOwth incre••• simclwonualion • : 0.2 Which specific; DNA currencies stand out? With valuation and growth/flows as the main tailwinds but facing rising core yields, we favour currencies where these tailwinds are stronger and those that score higher on defensive metrics (i.e. are better able to withstand rising core yields). 'Defensive' longs The main macro headwind we foresee is tightening iirei;rh”; or:ncle;ans on ECB tapering and Fed's divestment (amid increased supply on fiscal easing). Also, with less room to maneuver the risk of policy mistakes is higher and volatility tends to increase as liquidity tightens. In our view, as long as inflation pressures are limited, sudden stops are unlikely and therir risEs he contained And tl.:ev.-ed to‘vard HZ Still we prefer EM currencies that are better able to withstand shocks and perform even in more difficult external environments. Ow 'defensive' ranking is based on three 'defensive' dimensions - real rates. FX reserves and current accountibasie balance fbt.-::.; As the chart below shows, THB, RUB and BM. have among the best scores in our 'defensive' ranking These are among our preferred EM longs for 2018. We are also bullish on 1St,'" - while it is in the middle of the pack on our 'defensive' rankings, its robust external balances provide strong butters, in our view. Deutsche Bank Securities Inc, CONFIDENTIAL - PURSUANT TO FED. R. CRIM. P. 6(e) CONFIDENTIAL DB-SDNY-0076923 SDNY_GM_00223107 EFTA01379445