EM currencies hurt by strong dollar, calls for rate hike

EM currencies like the Malaysian ringgit, the Turkish lira, the Indonesian rupiah, the Brazilian real and South African rand have all taken a beating. The reasons for ongoing weakness in EM currencies include a strong USD, weak demand from China and anxiety related to Yellen’s call for a rate hike before the end of 2015.

RATE HIKE BEFORE THE END OF 2015
Janet Yellen refrained from hiking interest rates in September, but she never ruled out a rate hike before the end of 2015, when she spoke at the University of Massachusetts last Thursday, September 24. EM currencies are under pressure as China’s economy slows. But there are plenty of other pressures being brought to bear including the structural weakness in Brazil. The incumbent President is at record low popularity levels and she is presently in the process of coalition building. Dilma Rousseff is battling an ongoing recession with widespread corruption with the state-owned Petrobas oil company. The Brazilian real hit a low of R$4.2479 on Thursday and strengthened to R$3.9507 after intervention by the central bank. The following EM currency declines were recorded in 2015 to date:
– The Mexican peso declined by 13.19%;
– The Indian rupee declined by 15.29%;
– The Malaysian ringgit declined by 20.36%;
– The Turkish lira declined by 23.38%.

BRAZIL IS FRONT AND CENTRE
As one of the most influential countries in the EM world, Brazil must reassure investors that its economy is on track for a recovery. Rousseff is battling impeachment proceedings and her opposition needs just 257 seats to do this. Brazil’s currency has plunged 60% in 2015 and as much as 10% in September alone. The spillover effect of Brazil’s weakness has pervaded other EM markets around the world. But it’s not only Brazil that is battling weakness – it’s Indonesia too. The Indonesian central bank is looking to shore up the value of the currency which has depreciated by as much as 20% in 2015 alone. EM countries are using their central banks as tools to artificially support their currencies. One such measure is hiking interest rates, and the other is selling foreign currency reserves. Pervasive weakness remains because of structural weaknesses in the Chinese economy.

FACTORS AFFECTING EM CURRENCIES
– Chinese PMI figures are at multi-year lows;
– Brazilian inflation is at 5.3%, up from 4.8%, for 2016;
– EM countries with weak currencies and high inflation are being hard hit;
– Capital flight from EM countries is accelerating as dollar strength dominates markets;
– Structural weakness in the Chinese economy is impacting demand for EM commodities;
– EM currency weakness has made these currencies the most bearish financial assets of all.

OPPORTUNITIES IN EM COUNTRIES
As it stands, there are very few positive factors likely to jumpstart economic growth for EM currencies.
The South African rand is a case in point. The currency hit a record low against the USD when it traded at 14.0860 on Thursday, September 24. It has since recovered somewhat to trade at 13.92 to the dollar on Friday. The rand has come under fire against a basket of currencies including the GBP (21.09) and the EUR (15.56).
The debt burdens in EM countries are increasing as forex reserves begin to decline. Many years of stockpiling forex from trade surpluses have come to an end and central banks have to sell off dollars, pounds and euros to help the local currency to appreciate. That having been said, the selloff in EM equities, ETFs and capital flight is bringing long-term value back to these sectors. Bargain hunters will be eyeing EM markets for opportunities in commodities and bonds for the inevitable turnaround that is likely to come after this protracted downturn.