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The Case for Macro

Our Dynamic Allocation Strategies team explains why global macro investing offers many potential benefits when included in an investment portfolio. Read More (PDF)

Emerging Markets Outlook for 2017

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Philippine Peso Attractive Despite Geopolitics

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Across our investment universe of 32 currencies, the deeply undervalued Philippine peso represents one of the more attractive long opportunities. And it is an opportunity that is getting larger as the Philippine peso is one of the very few currencies to depreciate relative to the U.S. dollar so far this year.

We have been marginally increasing our exposure to the Philippine peso this year, in line with the widening valuation opportunity, but (due to Why and How stage analysis) our exposure remains below that warranted by fundamental value alone.

Long term, the Philippines boasts strong macro fundamentals including rapid economic growth, relatively low and stable inflation, and a strong demographic outlook. And medium term, the potential for positive reforms such as corporate tax cuts and infrastructure spending give the Philippines a bright outlook. I stress the word potential because, as we are all too familiar with, policy agenda and policy actions are two very different things. But we see a mostly positive story in the Philippines.

Within our How stage analysis, we are not yet fully responding to the Philippine peso opportunity because the current opportunity in currency is relatively narrow.

Within the How stage analysis, we are not yet fully responding to the Philippine peso opportunity because, as we have mentioned before, the current opportunity in currency is relatively narrow in that valuation tells us that emerging currencies are attractive and developed currencies are unattractive. As a result, macro diversification benefits are diminished and increasing long exposure to emerging currencies (including Philippine peso) would increase our portfolio beta.

The other reason is based on several considerations in the Why stage of our investment process. One of those headwinds is the Philippines maverick and populist President Rodrigo Duterte. He's similar to U.S. President Donald Trump in terms of his aggressive, unfiltered rhetoric and populist messages, as well as parts of his policy agenda. And many of Duterte's campaign promises have yet to be met. From a game-theoretical perspective, Duterte and Trump would both be considered “tit-for-tat” players who respond to aggression with aggression and benevolence with benevolence.

We're watching several geopolitical developments in the Philippines. One major issue is the President's war on drugs. Many citizens were in favor of a crackdown, on which Duterte based a lot of his campaign, due to the widespread nature of drug use in the country. However, the campaign and Duterte have faced cries of violations of human rights as the police have seemingly operated outside the law and engaged in the extrajudicial killings of several thousand people, many of whom appear to be low-level users rather than dealers. While Duterte still has a high degree of support in congress, we have begun to see protests in the streets as the war rages on and his approval ratings among Filipino citizens fell sharply in September. Duterte initially promised drugs would be eradicated within six months of his election, but recently admitted it could not be accomplished within his entire six-year term (which ends in 2022).

The other major development that we're monitoring is the battle for Marawi, a city in the province of Mindanao, between Philippines forces and militant groups who claim allegiance to Islamic State, the Maute and Abu Sayyaf groups. The terrorist groups seized the city in May, displacing hundreds of thousands of citizens, and remain entrenched there today despite the initial claim by the President  that this would be a very short-term issue. Duterte said he would take the city back in one week, but it's still going on more than 100 days later. He had to declare martial law in the province, which Congress recently approved to extend until the end of the year.

One of the reasons that Islamic State was able to grow in the Middle East was because it had territory, so it's important to prevent this terrorist group from continuing to hold this foothold in the Philippines, especially as the Islamic State loses ground in the Middle East.

At the same time, this development has brought the United States back closer to the Philippines. Duterte had been outspoken about pivoting away from the U.S. and towards China, both economically and militarily, but when push comes to shove, they really need the U.S., as evidenced by the U.S. aid during this fight, namely surveillance.

In summary, geopolitical headwinds remain in the Philippines, but long term we see solid macro fundamentals and, medium term, the potential for constructive reforms. As such, we remain long the deeply undervalued currency but to a lesser extent than valuation alone suggests. We are monitoring geopolitical developments as well as tax reform and infrastructure spending.