The expectation of a Fed rate cut is rising, and arbitrage traders are increasing their bets on emerging markets.

Interest rate differentials trading is making a comeback among emerging market investors, as market bets on the Federal Reserve starting to cut interest rates next month have caused the US dollar to weaken, boosting interest in high-yield currencies. Asset management institutions such as PIMCO and Amundi are increasing their exposure to currencies of countries such as Brazil, South Africa, and Egypt. They believe that the weak US dollar and reduced volatility have created a mature environment for this strategy. In this strategy, traders borrow low-yielding currencies to buy high-yielding currencies. Earlier this year, this type of trading recorded double-digit returns, but paused in July due to a US dollar rebound. Recently, poor US employment data has reinforced market expectations that policymakers may have to cut interest rates next month to avoid an economic downturn, reigniting arbitrage trading. From DoubleLine to UBS, many institutions have recently joined the camp betting against the US dollar, stating that the "dollar downturn narrative is back on stage". PIMCO's co-head of emerging market debt, Urquiza, stated: "The likelihood of a sharp rebound in the US dollar is very limited, while global economic growth overall remains robust." He prefers carry trades in South Africa, Turkey, Brazil, Colombia, Indonesia, and South Korea.