The market is starting to price broad US dollar (USD) debasement. The ongoing rally in precious metals is just one symptom of growing mistrust in the Dollar as the world’s main reserve currency. The Dollar is broadly overvalued relative to US fundamentals and the currencies of its large trading partners. In addition, US real yields have collapsed, US asset prices are expensive, and the US economy has entered recession. In sharp contrast, EM currencies are cheap, while EM assets are generally extremely undervalued. The contrast between valuations of currencies and assets in the US and EM is particularly interesting, when taking into account that EM external vulnerabilities as measured by the net international investment position (NIIP) are now their lowest levels in nearly two decades, while US external vulnerabilities are at their highest.

This report examines the recent improvement in the NIIP of EM economies and explains the causes behind the adjustment. The implications for the Dollar are discussed. Our view is that EM local currency denominated assets, both equities and fixed income, are good ways to diversify unbalanced global portfolios away from overbought US assets. Greater exposure to EM local assets offers not only a hedge against the ongoing debasement of the Dollar, but also enables investors to rotate exposures from momentum assets towards value assets.