Turkey Is Smoked – Perfect Bearish Excuse for EM?

By Natalia Gurushina, Chief Economist, Emerging Markets Fixed Income Strategy

Turkey’s decision to proceed with rate cuts despite high inflation and the weakening currency was not well received by the market. Does this make other EMs “easy targets” for market bears?

Turkey’s decision to proceed with the “recommended” (by higher authority) 100bps policy rate cut left the lira in tatters this morning. The currency weakened by mind-blowing 410bps against the U.S. dollar (as of 9:20am ET, according to Bloomberg LP), crossing yet another important level of 11.0. The market and the analysts are still trying to figure out what President Recep Erdogan’s end-game is, but nothing positive comes to mind other than that a likely collapse in imports will improve Turkey’s trade and current account balances. Lower rates will also boost credit growth, but there is a risk that any GDP growth benefits will be offset by surging inflation.

From the market’s perspective, this morning’s initial price action across EM FX raised concerns that developments in Turkey will be used as a bearish excuse for other emerging markets (EM) assets – especially against the backdrop of the deteriorating growth differentials between EM and developed markets (DM)/US (see chart below), which is an important fundamental consideration for investors. The growth factor was mentioned on more than one occasion after today’s 25bps inaugural rate hike in South Africa. One can argue that the central bank responded proactively to rising inflation, but with the latter still within the target range, some commentators felt that the hike might worsen South Africa’s near-term growth outlook. The growth factor was an important driver behind monetary policy decisions in EM Asia, where two central banks (Indonesia and the Philippines) happily stayed on hold today. No rate hikes, lower inflation pressures, rising vaccination rates – can the expectations that EM Asia will be EM’s “growth champion” in 2022 help to cushion regional assets?

Turkey is clearly one of EM’s “weak links”, but fundamental and political changes in some EMs can make them easy targets for market bears. Chile’s current account release was overlooked among the Turkish lira “excitement”, but its on-going deterioration (a record-wide deficit of USD6.5B in Q3) – against the backdrop of uncertain foreign direct investment inflows – sent a negative fundamental signal for the currency. The presidential elections this weekend can provide an additional catalyst if the leftist candidate emerges victorious. Stay tuned!

Chart at a Glance: EM-DM Growth Differentials – Getting Slimmer

Chart at a Glance: EM-DM Growth Differentials – Getting Slimmer

Source: VanEck Research; Bloomberg LP

Originally published by VanEck on November 18, 2021.

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PMI – Purchasing Managers’ Index: economic indicators derived from monthly surveys of private sector companies. A reading above 50 indicates expansion, and a reading below 50 indicates contraction; ISM – Institute for Supply Management PMI: ISM releases an index based on more than 400 purchasing and supply managers surveys; both in the manufacturing and non-manufacturing industries; CPI – Consumer Price Index: an index of the variation in prices paid by typical consumers for retail goods and other items; PPI – Producer Price Index: a family of indexes that measures the average change in selling prices received by domestic producers of goods and services over time; PCE inflation – Personal Consumption Expenditures Price Index: one measure of U.S. inflation, tracking the change in prices of goods and services purchased by consumers throughout the economy; MSCI – Morgan Stanley Capital International: an American provider of equity, fixed income, hedge fund stock market indexes, and equity portfolio analysis tools; VIX – CBOE Volatility Index: an index created by the Chicago Board Options Exchange (CBOE), which shows the market’s expectation of 30-day volatility. It is constructed using the implied volatilities on S&P 500 index options.; GBI-EM – JP Morgan’s Government Bond Index – Emerging Markets: comprehensive emerging market debt benchmarks that track local currency bonds issued by Emerging market governments; EMBI – JP Morgan’s Emerging Market Bond Index: JP Morgan’s index of dollar-denominated sovereign bonds issued by a selection of emerging market countries; EMBIG – JP Morgan’s Emerging Market Bond Index Global: tracks total returns for traded external debt instruments in emerging markets.

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