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Emerging market currencies Positioning in a volatile market Chief Investment Office Americas, Wealth Management | 16 November 2017 Jonas David, CFA, Analyst; Michael Bolliger, Analyst; Tilmann Kolb, Analyst; Teck Leng Tan, CFA, Analyst • In recent weeks, emerging market (EM) currencies have remained under pressure due to less benign global conditions and, in some cases, additional domestic headwinds. Although further near-term setbacks cannot be ruled out, several factors support the outlook over our investment time horizon. Compared to the past, EM fundamentals have improved; there is better growth and stronger external balances. We see opportunities in markets with sound fundamentals and an attractive interest rate carry (BRL, INR, and RUB), as well as in selected relative value trades (long PLN / short HUF, short TWD / long KRW). • Risks to our benign view are a faster-than-expected tightening of monetary conditions in advanced economies, weaker economic activity and a prolonged deterioration in investor sentiment. Our view EM currencies have remained under pressure in recent weeks following their strong performance in the first three quarters of the year. Less benign global conditions, including higher US Treasury yields and broad US dollar strength are ongoing headwinds. In some cases domestic issues have amplified the pressure. Further near-term setbacks cannot be ruled out, but we expect contained upward moves in global yields and a softer US dollar next year. In our view, gradually less accommodative monetary policy in advanced economies should not derail the EM outlook because fundamentals have improved. Compared to several years ago, economic activity is stronger, interest rates are higher, and external imbalances have declined. Still, country-specific factors matter in an investment context. This month we are tactically trimming some exposure in the Brazilian real (and adding exposure to Brazilian equities in our broader EM positioning), repositioning the overweight in the Indian rupee against the US dollar (SGD before), closing the overweight in the Indonesian rupiah and the underweight in the Singapore dollar, and closing the overweight in the Turkish lira against the South African rand. Moreover, we have opened an overweight in the Korean won against the Taiwanese dollar. In the EMEA region, we are keeping an overweight in the Russian ruble and still expect the Polish zloty to outperform the Hungarian forint. Fig. 1: EM currency preferences Positioning over tactical investment horizon BRL MXN CZK HUF PLN RUB TRY ZAR CNY IDR INR KRW MYR PHP SGD THB TWD USD EUR LatAm EMEA Asia new old neutral underweight overweight Source: UBS, as of 16 November 2017. This chart shows our tactical positioning in EM currencies, usually over a six-month investment horizon. These are relative value positions meant for those seeking investment opportunities in EM currencies. The views take into account returns from interest rate differences. The length of the bars reflect risk-return considerations. This report has been prepared by UBS AG and UBS Switzerland AG. Please see important disclaimers and disclosures at the end of the document.

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Emerging marketcurrenciesPositioning in a volatile market

Chief Investment Office Americas, Wealth Management | 16 November 2017Jonas David, CFA, Analyst; Michael Bolliger, Analyst; Tilmann Kolb, Analyst; Teck Leng Tan, CFA, Analyst

• In recent weeks, emerging market (EM) currencies haveremained under pressure due to less benign global conditionsand, in some cases, additional domestic headwinds.Although further near-term setbacks cannot be ruled out,several factors support the outlook over our investment timehorizon.

• Compared to the past, EM fundamentals have improved;there is better growth and stronger external balances. Wesee opportunities in markets with sound fundamentals andan attractive interest rate carry (BRL, INR, and RUB), as well asin selected relative value trades (long PLN / short HUF, shortTWD / long KRW).

• Risks to our benign view are a faster-than-expectedtightening of monetary conditions in advanced economies,weaker economic activity and a prolonged deterioration ininvestor sentiment.

Our viewEM currencies have remained under pressure in recent weeksfollowing their strong performance in the first three quarters of theyear. Less benign global conditions, including higher US Treasuryyields and broad US dollar strength are ongoing headwinds. Insome cases domestic issues have amplified the pressure. Furthernear-term setbacks cannot be ruled out, but we expect containedupward moves in global yields and a softer US dollar next year. In ourview, gradually less accommodative monetary policy in advancedeconomies should not derail the EM outlook because fundamentalshave improved. Compared to several years ago, economic activityis stronger, interest rates are higher, and external imbalances havedeclined. Still, country-specific factors matter in an investmentcontext.

This month we are tactically trimming some exposure in the Brazilianreal (and adding exposure to Brazilian equities in our broaderEM positioning), repositioning the overweight in the Indian rupeeagainst the US dollar (SGD before), closing the overweight in theIndonesian rupiah and the underweight in the Singapore dollar, andclosing the overweight in the Turkish lira against the South Africanrand. Moreover, we have opened an overweight in the Korean wonagainst the Taiwanese dollar. In the EMEA region, we are keepingan overweight in the Russian ruble and still expect the Polish zlotyto outperform the Hungarian forint.

Fig. 1: EM currency preferencesPositioning over tactical investment horizon

BRL

MXN

CZK

HUF

PLN

RUB

TRY

ZAR

CNY

IDR

INR

KRW

MYR

PHP

SGD

THB

TWD

USD

EUR

LatA

mEM

EAA

sia

new old

neutralunderweight overweight

Source: UBS, as of 16 November 2017. This chartshows our tactical positioning in EM currencies, usuallyover a six-month investment horizon. These are relativevalue positions meant for those seeking investmentopportunities in EM currencies. The views take intoaccount returns from interest rate differences. Thelength of the bars reflect risk-return considerations.

This report has been prepared by UBS AG and UBS Switzerland AG. Please see important disclaimers anddisclosures at the end of the document.

Positioning in a volatile marketSince mid-September higher US Treasury yields and broad US dollarstrength have hindered several EM currencies, especially fundamen-tally weaker ones. The MXN, TRY and ZAR, where domestic factorsamplified the pressure, initially began to falter, and weakness alsoarose in currencies with relatively better fundamentals. In this envi-ronment, we focus on those with sound fundamentals and anattractive interest rate carry (BRL, INR and RUB). Before taking out-right exposure in the riskier markets, we want to see more signsof stabilizing global conditions and lower domestic uncertainties,especially politically.

In the US, the market-implied probability of a Federal Reserve ratehike in December stands above 90% now, up from less than 25%in early September. Along with subdued inflationary pressure, somestabilization of market conditions looks likely. In our view, the mon-etary policy of major central banks remains accommodative, but isturning gradually less so. Next year we expect contained upwardmoves in global yields and a softer US dollar. Both should supportemerging markets. But other important factors need to be moni-tored, including progress on US tax reform and other US adminis-tration policies like potential trade protectionism.

Overall, we expect economic activity to remain sound next yearand for the growth differential between emerging and advancedeconomies to rise. Historically, this has supported emergingmarkets. Moreover, interest rates are higher and external bal-ances have improved. So gradually tightening monetary policy inadvanced economies should not derail the EM outlook, in our view,though further temporary setbacks cannot be ruled out. In thiscontext, EM political developments, including the ANC conferencein South Africa (mid-December), presidential elections in Russia(mid-March) and general elections in Mexico (early July) and Brazil(October), will need to be monitored.

Given their potential to lower investor sentiment, other factors towatch are commodity prices, China's economic outlook and geopo-litical tensions (e.g. North Korea, Middle East).

Fig. 2: EM currencies under pressure due tostronger US dollarPerformance of US dollar against major world cur-rencies and of EM currencies (indexed), as well asmarket-implied probability of US Fed rate hike inDecember (in %)

0%

20%

40%

60%

80%

100%

96

97

98

99

100

101

102

103

Aug-17 Sep-17 Oct-17 Nov-17

Probability of December rate hike (rhs)

US dollar index

EM currencies

Source: Bloomberg, JPM, UBS, as of 15 November 2017

Fig. 3: External balances have improved inrecent yearsRegional current account balances (in % of GDP,ELMI+-weighted)

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

2010 2011 2012 2013 2014 2015 2016 2017

Asia EMEA LatAm

Source: Bloomberg, UBS, as of 15 November 2017

Fig. 4: Further weakness in the past monthPerformance of EM currencies in the last month (total returns measured inUSD terms, in %), including FX and interest rate return

-8.0

-6.0

-4.0

-2.0

0.0

2.0

KRW PH

P

MY

R

THB

CZK IDR

TWD

INR

PLN

CN

Y

SGD

MX

N

HU

F

BRL

RUB

TRY

ZAR

FX return Interest rate return Total return in USD

Recap• Several EM currencies in the past month

have weakened against the US dollaroutside of those in Asia, which trendedsideways to slightly stronger.

• The South African rand (ZAR) and Turkishlira (TRY) depreciated markedly due to highsensitivity to adverse global conditions anddomestic issues.

• Although their fundamentals are stronger,the Russian ruble (RUB) and Brazilian real(BRL) also depreciated.

• Despite lingering risks, earlier pressure onthe Mexican peso (MXN) has diminished.

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 2

Source: Bloomberg, UBS, as of 15 November 2017

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 3

.

Investment views

Latin America: Short USD and EUR / long BRL (targets: USDBRL 3.00 / EURBRL 3.65)

The Brazilian real (BRL) remains, relative to the US dollar and euro,one of our preferred currencies. Fundamentals have started toimprove and make the risk-return outlook of a long BRL positionattractive. Also, the real's interest rate carry enhances the totalreturn outlook.

Drivers• Recent dollar strength following the repricing of the US fiscal

and monetary outlook is only temporary, in our view. Risk sen-timent should remain underpinned by the synchronized globalrecovery and stable-to-higher commodity prices.

• Brazil's economy has improved and forward-looking indicatorspoint to expanding business activity. GDP growth next year isforecast to climb to 3% from 0.5% this year. Subdued inflation(2.7% y/y in October) leaves the door open to further mon-etary easing, although the end of the easing cycle is likelyapproaching soon. After the latest policy rate cut by 75bps to7.5%, we expect just one more reduction to 7%.

• Despite a significant decline this year, Brazil's interest rate carryis still decent, in our view, both in nominal and real terms. Giventhe low yields in advanced economies, the real should keepattracting investors.

• On the external side, the country's trade surplus has reachedUSD 67.6bn in the past 12 months – a record high – whichhelped lower the current account deficit to 0.6% of GDP,though a recovery in domestic demand might lead to softerreadings. Meanwhile, foreign direct investment remains robust.

• Politics may grab headlines again, but the situation has calmedof late. President Michel Temer's popularity is low, but he stillhas support in Congress and is expected to finish his term.

Risks• Further setbacks on reforms as well as deteriorating confidence

and growth-inflation dynamics are possible; at the same time,the reform process could also surprise on the upside, e.g. wethink progress on the pension reform remains within reach.

• Renewed political tensions/scandals in Brazil could destabilizethe government and pressure the BRL.

• A swifter-than-expected normalization of global monetarypolicies is a key risk to EM currencies, including the BRL.

Factors to watch• Brazil: Growth and inflation data, central bank decisions (policy

rate on 6 December, roll-over of FX swaps), external balanceand politics.

• Global: Monetary policy decisions (US Fed on 13 December,ECB on 14 December), commodity prices and risk sentiment.

Fig. 5: USDBRL exchange rate and target

2.00

2.50

3.00

3.50

4.00

4.50

2014 2015 2016 2017 2018

USDBRL Target

Source: Bloomberg, UBS, as of 15 November 2017

Fig. 6: EURBRL exchange rate and target

2.80

3.20

3.60

4.00

4.40

4.80

2014 2015 2016 2017 2018

EURBRL Target

Source: Bloomberg, UBS, as of 15 November 2017

Fig. 7: Trade surplus continues its riseExport and import growth (in % y/y), and tradebalance (in USD bn)

0

10

20

30

40

50

60

70

-40%

-20%

0%

20%

40%

Feb-16 Aug-16 Feb-17 Aug-17Exports (% y/y)Imports (% y/y)Trade balance (USD bn), rhs

Source: Bloomberg, UBS, as of 15 November 2017

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 4

EMEA region: Short USD and EUR / long RUB (target: USDRUB 58.0 / EURRUB 69.5)

The Russian ruble (RUB) is bolstered by improving fundamentals,an attractive interest rate carry and oil prices. It remains one ofour preferred EM currencies relative to the US dollar and euro. Itsspot appreciation potential looks limited, but its interest rate carryenhances its total return outlook.

Drivers• Stable oil prices and accommodative monetary policies in

advanced economies should support the ruble, but temporarysetbacks cannot be ruled out.

• The circa 7% interest rate makes the ruble attractive in an envi-ronment of low yields in advanced economies.

• The Russian central bank is pursuing prudent monetary policy,in our view. Recently, it cut the policy rate by 25bps to 8.25%.Assuming contained inflation and benign global conditions, wethink further cuts to 6.5% by end-2018 are likely. Still, Russia'snominal and real interest rates should remain among EM'shighest. Meanwhile, the Ministry of Finance's FX purchases willlikely increase and limit the RUB's appreciation potential.

• Although weaker than expected, the latest GDP growth (3Qpreliminary: 1.8% y/y; expected: 2.0%; prior: 2.5%) shows theeconomy is expanding – a trend we expect to continue. At thesame time, inflation is below the 4% target and is forecast toremain subdued.

• After some earlier deterioration, Russia's current accountsurplus is showing signs of improvement again, and seasonalityshould be favorable in the coming months.

Risks• Global setbacks (e.g. interest rate spikes, oil prices, US politics,

geopolitical tensions or risk sentiment).

• Russia's banking sector facing increasing stress.

• Rising political tensions ahead of the presidential electionscheduled for mid-March.

• Tougher-than-expected policy by the US toward Russia,including new sanctions.

Factors to watch• Russia: Growth-inflation dynamics and monetary policy (next

central bank meeting: 15 December), current account balance,banking sector, geopolitics and presidential elections (firstround on 18 March).

• Global: Oil prices, monetary policy decisions (US Fed on 13December, ECB on 14 December), US politics and risk sen-timent.

Fig. 8: USDRUB exchange rate and target

30

40

50

60

70

80

90

2014 2015 2016 2017 2018

USDRUB Target

Source: Bloomberg, UBS, as of 15 November 2017

Fig. 9: EURRUB exchange rate and target

40

50

60

70

80

90

100

2014 2015 2016 2017 2018

EURRUB Target

Source: Bloomberg, UBS, as of 15 November 2017

Fig. 10: Prudent monetary policy amid declininginflationPolicy rate (in %) and CPI inflation (in % y/y)

0

2

4

6

8

10

12

14

16

18

2013 2014 2015 2016

Policy rate (in %) CPI inflation (in %y/y)

Source: Bloomberg, UBS, as of 15 November 2017

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 5

EMEA region: Long PLN / short HUF (target: 75.0)

The Polish zloty (PLN) should continue to strengthen against theHungarian forint (HUF), in our view. The very dovish stance of theNational Bank of Hungary (MNB) should weigh on the forint, whilethe zloty is likely to appreciate once political tensions around leg-islative proposals calm down.

Drivers• Hungary: The MNB continues to signal its dovishness, and the

recent weaker inflation readings play into its view. Its guidanceis for an extended time frame for loose monetary policy, andadditional measures to reduce longer-term rates are likely. Wethink the MNB will go on providing easy liquidity conditions inthe coming quarters, while strong wage growth and tight labormarkets should underpin inflation. In our view, the MNB willaccept higher inflation rates to boost growth despite the riskthey will overshoot the target and already deeply negative realyields.

• Poland: Political tensions linger due to proposed changes tothe judiciary, and the dispute between EU institutions and thePolish government is set to escalate (please see spotlight belowfor further information). After discussions between PresidentAndrzej Duda and the ruling PiS, two controversial bills re-entered the legislative process. In light of worries about the ruleof law, it remains to be seen how Polish civil society and the EUreact to the outcome. Meanwhile, the zloty remains supportedby a favorable growth outlook, and we think the National Bankof Poland will likely react earlier to inflationary pressure thanits Hungarian peer. While rate hikes in Poland are likely somequarters off, the zloty may already benefit when the discussionshifts to the possible start date of a hiking cycle. Recent com-ments by members of the monetary policy committee indicatefirst cracks in the official dovish message, in our view. Finally,the zloty yields around 1.8% p.a. more than the forint, bene-fiting our position.

Risks• Stronger-than expected European growth should help Hungary

more than Poland, as Poland's economy is more closed thanHungary's. This could aid the forint.

• Hungary’s current account surplus serves as a backstop againstsizable HUF depreciation.

• An escalation of political tensions between the EU and Polandmay weigh on investor sentiment toward Poland and the zloty.

Factors to watch• Hungary: Growth-inflation dynamics, next MNB meetings (21

November, 19 December), stock and maturity of swap instru-ments.

• Poland: Growth-inflation dynamics, tensions around legislativeinitiatives, next NBP meetings (5 December, 10 January).

Fig. 11: PLNHUF exchange rate and target

68

70

72

74

76

78

2014 2015 2016 2017 2018

PLNHUF Target

Source: Bloomberg, UBS, as of 15 November 2017

Fig. 12: Wage pressure should feed intoinflationWage growth and core CPI (in % y/y)

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

0

2

4

6

8

10

12

14

16

Oct-15 Apr-16 Oct-16 Apr-17 Oct-17

Hungary - core inflation (rhs) Poland - core inflation (rhs)

Hungary - wage growth Poland - wage growth

Source: Bloomberg, UBS, as of 15 November 2017

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 6

Asia: Short USD / long INR (target: USDINR 64.0)

The Indian rupee (INR) benefits from an improving Indian growthoutlook and a reasonable yield carry and so remains one of our pre-ferred currencies in Asia, relative to the US dollar. Its spot appreci-ation potential looks limited, but its interest rate carry enhances itstotal return outlook.

Drivers• Improving economic outlook. It should lure more foreign direct

investment (FDI) and portfolio inflows, with GDP growth likelyrecovering to 7.4% next year from 6.6% this year, following lastyear's demonetization, July's GST reform and the bank recap-italization of a month ago. Indeed, industrial production andPMI have shown signs of recovery, after bottoming in June/July.

• Positive yield carry. The INR's is fairly attractive at 4% versus theUSD. Given the broad USD weakness we see for next year, wethink the INR is worth holding for its yield.

• The Reserve Bank of India's (RBI) vigilance on inflation. InOctober, five out of six board members (including GovernorUrjit Patel) voted to keep rates unchanged, although onemember voted for a 25bps rate cut. INR stability depends onstable inflation. The currency has remained in a 63.5–68.5range since mid-2015, as India's inflation has hovered between3% and 5%. With the current USDINR 12-month forwardtrading slightly above 68, the entry level looks attractive.

• The current account deficit. It should remain manageable sincecrude oil prices should fall slightly, in our view. We expectBrent crude oil price to settle at USD 57/bbl in 12 months(from today's USD 61.6/bbl), which should keep India's currentaccount deficit in the 1–2% range.

Risks• Risk of fiscal slippage in the run-up to the 2019 general elec-

tions (by May 2019). Should India’s fiscal deficit deterioratesharply, it could lead to a sell-off in Indian bond markets.

• Broad USD strength could hurt our trade. Notwithstanding apotential short-term USD rebound (triggered by progress on UStax reform), we expect the USD to drift lower next year, in viewof the persistent US twin deficits and the lack of strong Fedtightening intentions.

Factors to watch• India: Whether GDP growth rebounds as we expect and attracts

FDI / portfolio inflows into India.

• US inflation: Whether it picks up and prompts markets to expecta faster pace of US monetary tightening.

Fig. 13: USDINR exchange rate and target

58

60

62

64

66

68

70

2014 2015 2016 2017 2018

USDINR Target

Source: Bloomberg, UBS, as of 15 November 2017

Fig. 14: Stabilizing inflation and current accountdynamics should keep INR stableCPI (in %) and current account balance (% of GDP)

(6)

(4)

(2)

0

2

4

6

8

10

12

14

Oct-11 Oct-12 Oct-13 Oct-14 Oct-15 Oct-16 Oct-17

CPI India (%) India current account deficit (% GDP)

Source: Bloomberg, UBS, as of 15 November 2017

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 7

Asia: Short TWD / long KRW (target: TWDKRW 36 - 36.5)

We are overweight the Korean won (KRW) against the Taiwanesedollar (TWD), due to stronger Korean growth and inflation dynamicsvis-a-vis Taiwan. They should underpin a more hawkish bias by theKorean central bank, which in turn should welcome more KRWappreciation to curb rising price pressures.

Drivers• Stronger growth dynamics in Korea than Taiwan. Korea is

running a larger output gap (3Q GDP of 3.6%, vs potentialgrowth of 2.9%) than Taiwan (3Q GDP of 3.1% vs potentialgrowth of 2.9%). We expect Korean GDP to rise 3% next year(the same as this year) and Taiwan's 2.3% (slightly down from2.4% in 2017).

• Stronger inflation dynamics in Korea than Taiwan. Korea'sinflation of 1.8% (vs inflation target of 2%) compares toTaiwan's deflation of 0.3% (vs implicit inflation target of 2%).Average CPI next year should come in at 2.2% for Korea (upfrom this year's 2.0%) and 1.0% for Taiwan (up from 0.6% in2017).

• Growing divergence in monetary policy. The Bank of Koreais more hawkish than the neutral-to-dovish Taiwan CentralBank, which said in September that “inflation pressures and theinflation outlook are currently very mild." By contrast, the Bankof Korea said in October that economic conditions appear ripeto reduce accommodation. (Moreover, a dissenting vote calledfor a rate hike.)

• Carry is slightly positive. Long KRW/TWD has a 1.3% p.a. carry(KRW -0.4%, TWD -1.7%).

Risks• Significant escalation of North Korean tensions, which will hurt

the KWR more than the TWD.

• Risk aversion: KRW tends to see larger selloffs during generalrisk-off episodes, as evidenced by its higher implied volatility(8-9%) compared to the TWD (4-5%).

Factors to watch• Bank of Korea governorship. The current governor's term ends

in March.

• North Korea: Ongoing developments on the Korean peninsula.

Fig. 15: TWDKRW exchange rate and target

33

34

35

36

37

38

39

2014 2015 2016 2017 2018

TWDKRW Target

Source: Bloomberg, UBS, as of 15 November 2017

Fig. 16: Korea's growth and inflation dynamicsare superior to Taiwan'sData in %

3.63.1

1.8

-0.3-1

0

1

2

3

4

5

KR GDPgrowth(3Q 17)

TW GDPgrowth(3Q 17)

KR CPI(Oct 17)

TW CPI(Oct 17)

Source: Bloomberg, UBS, as of 15 November 2017

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 8

Further investment views and strategy updates

Asia: Closing long IDR and short SGDWe are closing our overweight Indonesian rupiah (IDR) positionversus the Singapore dollar (SGD). In the coming year, we expectanother round of USD weakness, which implies upside risk for theSGD. Given the Monetary Authority of Singapore (MAS)’s trade-weighted exchange rate approach, the SGD is likely to be liftedby strength in its trading partners’ currencies versus the USD. Inaddition, the MAS has turned more confident about the globaland domestic outlook, and has signaled that tightening is likelynext year. As such, we expect the MAS to return to a policy ofgradual SGD nominal effective exchange rate (NEER) appreciationin October 2018, and thus see the SGD being supported over thecourse of the year.

Regarding the IDR, we still expect the USDIDR exchange rate toremain stable in an environment of broad USD weakness. But givenBank Indonesia’s desire to rebuild FX reserves during periods of USDweakness, the return potential is limited to the yield carry. Since theyield carry takes time to accumulate while the SGD looks set to driftstronger, the investment case for staying overweight the IDR againstthe SGD has become less attractive. As such, we have closed thisposition and gone to the sidelines to wait for better opportunities.

For further details, please refer to "USDSGD:Further SGD strength in 2018" (8 November).

EMEA region: Closing long TRY / short ZARWe are taking profit on the overweight in the Turkish lira againstthe South African rand because the risk-reward of both sides hasbecome less appealing.

In Turkey, we think a more decisive monetary policy response isneeded to ease the lira's recent depreciation trend. Absent suchmeasures, risks are skewed toward further weakness in the comingweeks. The interest rate in excess of 12% p.a. is high in nominalterms, and supports the total return outlook. In the current envi-ronment of global and domestic headwinds, however, investors areunlikely to increase exposure for now. A major obstacle remainsthe country's large current account deficit and its dependence onforeign capital inflows.

In South Africa, upcoming event risks can trigger sharp moves ineither direction. The upcoming ANC conference will be pivotal forthe country's outlook, but the outcome of the leadership race istoo close to call. In our view, the main scenarios are a victory bythe “status quo” candidate Nkosazana Dlamini-Zuma, the reformistCyril Ramaphosa or the "compromise" contender Zweli Mkhize. Inthe second and third scenario, markets are expected to react pos-itively, which we see as more likely on the margin. In the first sce-nario, more weakness is probable given lower reform prospects.

Meanwhile, another rating cut to non-investment grade wouldweigh on the rand as (passive) investors will likely reduce their bondholdings. The local-currency ratings of S&P (BBB-) and Moody's(Baa3) are currently just above the critical threshold with a neg-ative outlook – both agencies will announce their decisions on 24November. If both issue downgrades, USDZAR could spike above15.5, but we see this as a risk case.

For further details, please refer to "USDTRY:Ongoing pressure" (8 November) and"USDZAR: Structural outlook at a cross-roads" (14 November).

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 9

Spotlight: Heightened tension between EU and PolandAfter the earlier veto of two controversial bills concerning the judi-ciary by President Andrzej Duda, discussions between him and theruling PiS followed and the modified bills re-entered the legislativeprocess. Meanwhile, in light of worries about the rule of law, theEuropean Parliament recently took a first step in the Article 7 pro-cedure, which may ultimately result in a suspension of Poland'svoting rights in the European Council.

However, we think the likelihood of this occurring is low, since una-nimity is needed to determine the existence of a serious breach ofcommon values and Hungary already signaled that it would notsupport such an assessment. The Polish zloty has not reacted mean-ingfully yet and continues to trade sideways around EURPLN 4.24.While further news about the EU-Poland dispute may temporarilyweigh on the zloty, we think it should strengthen against the euroonce investors focus on the sound growth-inflation dynamics of thePolish economy. We reconfirm our forecasts of EURPLN 4.15, 4.10,4.10 in three, six and 12 months, respectively.

Fig. 17: EURPLNExchange rate (incl. forward rates), CIO forecasts andvolatility range

4.00

4.20

4.40

4.60

Nov-16 May-17 Nov-17 May-18 Nov-18EURPLN, incl. forward ratesCIO ForecastVolatility range

Source: Bloomberg, UBS, as of 15 November 2017

EM exchange rate forecasts

Latin AmericaCurrent 3-month 6-month 12-month

AsiaCurrent 3-month 6-month 12-month

USDBRL 3.32 3.10 3.00 2.90 USDCNY 6.62 6.60 6.55 6.50USDMXN 19.2 18.0 18.5 19.0 USDIDR 13,534 13,500 13,500 13,500

USDINR 65.2 64.0 64.0 64.0EMEA USDKRW 1,112 1,100 1,080 1,060EURPLN 4.25 4.15 4.10 4.10 USDMYR 4.17 4.10 4.10 4.00EURHUF 312 310 312 312 USDPHP 51.0 51.0 51.0 50.5EURCZK 25.7 25.7 25.5 25.5 USDSGD 1.36 1.36 1.34 1.32USDTRY 3.88 3.75 3.70 4.00 USDTHB 33.0 32.8 32.5 31.8USDZAR 14.4 14.0 13.5 13.5 USDTWD 30.1 29.8 29.4 29.0USDRUB 60.2 58.0 58.0 58.0

Source: Bloomberg, UBS, 15 November 2017 (please refer to our regular updates for latest views)

Emerging market currencies

Chief Investment Office Americas, Wealth Management 16 November 2017 10

Appendix

Emerging Market InvestmentsInvestors should be aware that Emerging Market assets are subject to, amongst others, potential risks linked to currency volatility, abrupt changes in the cost of capitaland the economic growth outlook, as well as regulatory and socio-political risk, interest rate risk and higher credit risk. Assets can sometimes be very illiquid and liquidityconditions can abruptly worsen. CIO Americas, WM generally recommends only those securities it believes have been registered under Federal U.S. registration rules(Section 12 of the Securities Exchange Act of 1934) and individual State registration rules (commonly known as "Blue Sky" laws). Prospective investors should be awarethat to the extent permitted under US law, CIO Americas, WM may from time to time recommend bonds that are not registered under US or State securities laws.These bonds may be issued in jurisdictions where the level of required disclosures to be made by issuers is not as frequent or complete as that required by US laws.For more background on emerging markets generally, see the CIO Americas, WM Education Notes, Emerging Market Bonds: Understanding Emerging Market Bonds,12 August 2009 and Emerging Markets Bonds: Understanding Sovereign Risk, 17 December 2009.Investors interested in holding bonds for a longer period are advised to select the bonds of those sovereigns with the highest credit ratings (in the investment gradeband). Such an approach should decrease the risk that an investor could end up holding bonds on which the sovereign has defaulted. Sub-investment grade bonds arerecommended only for clients with a higher risk tolerance and who seek to hold higher yielding bonds for shorter periods only.

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Emerging market currencies

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