All animals are equal, but some animals are more equal than othersGeorge Orwell, Animal Farm.
This quote from George Orwell’s satirical novel Animal Farm sums up well the current fortunes and misfortunes of the world’s major emerging economies – ex-China – in the wake of the coronavirus outbreak.
- All the Major Emerging Market Economies (EMEs) ex-China have been hit by the coronavirus crisis: EM currencies, bonds and equities stumbled and lost ground in February-March
- The recovery have been uneven across the EM universe with some economies and markets proving to be more resilient than others.
- Further analysis is needed on a country by country basis in order to get a more comprehensive understanding of this dispersion
As a matter of fact, the economies of Mexico, Brazil, Russia, India, Indonesia, South Africa and Turkey have all been hit by the coronavirus crisis. EM currencies, equities and bonds have been particularly impacted by the global market fallout that occurred in February-March 2020. As has been documented by the IIF, Global investors pulled out their funds at record speed during that acute episode of market stress. Since then, the volatility of DM and EM markets has somewhat receded and the general sentiment toward risky assets has improved, not the least because the world’s major central banks committed trillions of dollars to support the markets and to put a de facto backstop on assets valuations . However, EM assets remains vulnerable to new waves of volatility and risk aversion that would trigger additional capital outflows.
Beyond the overall de-risking trend that hit EM assets, there is an increasing dispersion inside the EM universe. Currencies are a good indicator of this dispersion that reflects varying exposures and vulnerabilities to common risk factors. As a result of the general market sell-off and record increase in volatility witnessed earlier this year, all of six major EM currencies (Brazilian Real, Turkish Lira, Mexican Peso, African Rand, Indonesian Rupiah and Russian Ruble) lost ground against the US dollar. Since then, while the Indonesian Rupiah and the Russian Ruble have recovered some of the ground they lost against the green buck, other US/EM pairs are plateauing at higher levels than before the crisis, reflecting a permanent adjustment in country risk premiums and sharply revised growth outlooks against the pre-crisis situation.
The recent EM currencies sell-off could be put in perspective against a longer secular depreciation against the US dollar that started in the mid 2010s, as a result of slowing global trade and GDP growth, lacklustre demand for commodities in China and an ensuing collapse in oil and other commodities prices in 2015. This coincided with the so-called tapering initiated by the Fed in 201 4 which led to an across the board appreciation of the US Dollar against the currencies of both Advanced and Emerging Economies.
Some of the EM sell-off could be related to the recent oil price collapse that more than halved oil prices earlier this year, in March, following the disastrous failure of the OPEC+ Vienna meeting and the price war initiated by Saudi Arabia before an agreement to reduce oil production by around 10 million barrels per day – one tenth of the global pre-crisis supply – was eventually signed with strong pressure from Donal Trump on his Saudi allies (cf. our analysis of that deal). Out of the six showcased major EM economies, only Turkey is not an oil exporter. However, the oil price collapse cannot explain by itself the latest currency movements. However, the dependance on oil exports is very different from one country to the other. In this respect, Russia which is arguably the most oil dependent economy has witnessed has been able to wither this new storm much better than Brazil and Mexico. Taking into into account price movements across other commodities such as Soybeans and Gold does not help explain the dispersion either (cf. the chart below). Therefore, other fundamental and technical factors should be accounted for in order to get a more comprehensive view.
The performance of emerging equities from the beginning of the year gives also some insights about the differentiation of risk premiums across the Major EM economies. The performance of EM Equities has been impacted by capital outflows amid growing risk aversion and flight to safety between the second half of February and the bottom reached by the markets in the second half of March. Although all EM equity indexes have been severely affected by the market fallout, the recovery has been uneven with the Russian (INDEXCF) and Turkish (XU100) markets rebounding more than the other stock markets.
Finally, looking at EM Sovereign bonds spreads against US 10 years T-bonds, it is interesting to note the side-effects of the major G3 Central Banks announcements on the EM sovereign risk premiums. Indonesia and Turkey stand out with persistently higher spreads than before the outbreak of the crisis. Indonesia, Turkey, Mexico and South Africa all display relatively low levels of international reserves related to imports (cf. chart). For Turkey and Indonesia, debt service also represents a substantial share of their exports of goods, services and primary income. We will come back in later posts with more detailed commentaries focused on the individual countries.