The much anticipated September meeting of the Federal Open Market Committee was considered likely to result in the start of tapering of Quantitative Easing (QE).

In fact, the committee confounded expectations by announcing no change to either the base rate or the rate of asset purchases. The general consensus in the market before the decision was that the economy in the US had improved sufficiently that the exceptional monetary support, which amounts to $85bn of bond purchases per month, could be reduced by around $10bn.

The economic commentary from many of the brokers now appears to be going for the December meeting as the new start date for tapering to commence. The market reaction was fairly significant but also fairly unsurprising. The S&P500 moved around 1.5% higher immediately following the announcement, the yield on the 10-year Treasury fell approximately 17bps implying a capital appreciation comparable to the S&P, gold jumped by around 4% and the US dollar fell against all major currencies.

The German electorate has helped Angela Merkel and her CDU party to a resounding election victory in Germany, just five seats short of an absolute majority and their best result in 20 years. However the former coalition partner the Free Democrats failed to secure 5% of the vote and therefore any seats in the Bundestag, meaning Merkel will either have to scrape a coalition with the smaller parties or form a fresh grand coalition with SPD. Either route will likely see protracted negotiations (2005 took 69 days). There has been little reaction to the news in equity or bond markets, even those in peripheral Europe where austerity looks likely to continue to be the order of the day.

The arrival of Mark Carney as the new governor of the Bank of England has also led to a change in approach to monetary policy, as previously mentioned in last month’s article. The BOE have embarked on a policy of “forward guidance”, maintaining that until the unemployment rate falls below 7% (currently at 7.8%) a hike in interest rates will not be considered. However, there are three conditions attached: Firstly that CPI inflation in the MPC’s view is not likely to be above 2.5% in 18-24 months time; Secondly, that inflation expectations remain well anchored; and thirdly, that financial stability is not deemed to be at risk. The intention of this policy shift was effectively to convince markets that interest rates would be kept close to zero for the foreseeable future. Unfortunately, markets remain unconvinced that this will be the case, particularly given the strength of recent data points.

Emerging market nations have had to deal with both the slowdown in China and also the prospect of QE ceasing in the US, along with a more competitive Japanese Yen. With regards to the reduction in Chinese growth rates, commodity producing countries such as Brazil have had to accept that demand for their products will likely slow. Meanwhile, with regards to the impact of a change in US monetary policy, Emerging Markets, often the destination of cheap money over the last four years, must now contend with potential capital outflows. The impact of this has been most apparent in countries with large current account deficits, such as Brazil, India, Turkey and Indonesia, who are reliant on external financing and have recently seen both their currencies and bonds deteriorate in value.

A number of commentators fear a re-run of the Asian Financial Crisis of 1997-98. Although it is difficult to predict just how the ending of QE will affect these countries in the short-term, since the last crisis we would highlight that EM countries have built up substantial FX reserves, FX rates are more flexible and government debt is generally denominated in local currency rather than US dollars and of longer duration.

Nevertheless, the need to differentiate between countries within the EM space has become crucially important and we believe that investors should focus on those nations which boast fiscal and current account surpluses and are commodity consumers, rather than producers.