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bne September 2018 Special focus I 37
How bad has August's EM sell-off been?
August has been a crisis month in Emerging markets (as usual), with the collapse of the Turkish lira (TRY) and sell- offs in several other markets, including Russia, which has been roiled by the US government threat of new “crushing” sanctions on Russia this autumn. But just how bad has the sell-off been? The consensus is while most markets have been affected there will be no 1997 Asian crisis-style con- tagion and that many markets should bounce back soon.
Asset prices in Turkey and Argentina have fallen dramati- cally in recent weeks, while the moves in other countries’ markets look similar to previous EM sell-offs over the past decade, according to Capital Economics. The lira has lost some 40% of its value YTD, the Russian ruble is down by about 7% and the Ukrainian hryvnia is out by about 15%. Bond markets have also been hit with spreads over US treasuries widening across the board, which spells trouble for Turkey, Russia, Ukraine and Belarus in particular, all of, which plan to raise large amounts of debt in the next
12 months.
But the impact on growth for these markets remains unclear. Clearly economic growth will slow – Russia has just revised its outlook down mildly – but not by large amounts, experts say.
“It’s still very early to gauge whether there has been
an economic hit, although our indicators suggest that financial conditions in EMs haven’t tightened to anywhere near the degree to, which they did during the 2013 Taper Tantrum,” William Jackson, the Chief Emerging Markets Economist at Capital Economics said in a note, referring to the US Federal Reserve's decision to gradually reduce the amount of money it was feeding into the economy then. The taper caused investors to panic, who rapidly withdrew money from the bond markets and drastically increased bond yields.
Capital Economics looked back at the last 11 sell-offs in EM financial markets this decade, caused by currency cri- sis using a threshold of the JP Morgan EMBI spread over US Treasuries rising by 50bp or more within three weeks to define “crisis.” This captures the major sell-offs trig- gered by the euro-zone debt crisis in 2011/12, the “Taper Tantrum” in 2013, fears of a China hard landing in 2015, as well as the latest sell-off.
“What comes out of this comparison is the sell-offs in Turkey and Argentina this time round have been particu- larly sharp. The falls in their currencies and rise in their bond yields (both dollar and local currency) have only been matched in scale by the declines in Russian asset prices
during the ruble crisis of late 2014,” says Jackson, adding that the size of the currency falls are in line with previous crises, the rise in local currency bond yields has been larger, but the widening of spreads to US T bills has been smaller.
“Overall, then, it has been a large sell-off, but perhaps not as dramatic as some headlines have suggested,” Jackson concludes.
Another conclusion is the currencies that have done badly, always do badly in crises and tend to belong to the countries with economic problems like wide current account deficits.
However, apart from Argentina and Turkey, which have been in the front line, the other economies are not show- ing signs of more than a mild slowdown in growth as a result of the current crisis bout.
One way to assessing the impact on economies is to
look at the financial conditions and in most countries the authorites have tightened control similar to their reaction in previous crises in 2014 and 2015, but less than during the taper tantrum in 2013. Moreover, for those countries with sound macro fundamentals, which consequently have not see bond yields spike, these may now benefit from the weakening of their currencies that will lead to a bounce back once the frayed nerves of August calm.
Russian brokers are already reporting that a sell-off in the local treasury bills, the OFZ, has lead to a fall in prices, but the fall in the value of the ruble against the dollar is mak- ing these popular bills look very attractive again. Investors are holding off however, until some clarity appears over what the form of the new pending US sanctions will be as the draft law in Congress targets Russia’s sovereign debt.
Change in EM Currencies vs. US Dollar During Sell-offs (%)
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