August 17, 2018 / 9:54 AM / 3 months ago

Breakingviews - Capital retreat turns light on Turkey lookalikes

A man looks to a display board of a currency exchange office in Istanbul, Turkey August 13, 2018.

LONDON (Reuters Breakingviews) - Resembling Turkey is a problem right now. The lira’s alarming slide has made investors wary of any emerging country that shares too many of the same economic and financial vulnerabilities. The most similar, such as South Africa and Argentina, are already hurting. But even those with a less striking resemblance are vulnerable as capital flows out of riskier markets.

Breakingviews has identified some of the economic problems afflicting Turkey and ranked other emerging markets according to how vulnerable they are on the same counts (click here for interactive graphic: tmsnrt.rs/2PcmXPj). These difficulties include big budget and current account deficits, inadequate foreign exchange reserves, and too much debt issued in foreign currency. A relatively high proportion of overall debt held by outsiders is another weakness.

On foreign exchange, South Africa’s reserves are less adequate than Turkey’s on an International Monetary Fund measure. The international lender expects Argentina’s foreign currency debt to account for an even higher proportion of private sector and public sector borrowing than Turkey’s 58 percent. Indonesia and Hungary also have fairly elevated scores on this count.

Other countries fare worse in other categories. The IMF expects five governments to run bigger fiscal shortfalls in 2018 than Turkey’s President Tayyip Erdogan’s administration. Four countries have higher levels of external debt as a proportion of GDP.

Erdogan’s problem is that, when the factors are combined, Turkey is top of the vulnerable list. A rising dollar and higher U.S. interest rates exacerbate problems and make foreign investors more apt to exit.

What’s more, quantitative metrics alone do not explain why economic concerns turn into a crisis. The scale of the lira’s recent slide reflects investors’ lack of faith in Turkish policymakers, particularly those at the central bank, rather than a sudden deterioration in economic fundamentals.

Fund managers now hold a 1 percent underweight position in emerging market equities, down 44 percentage points since April 2018, according to Bank of America Merrill Lynch’s August survey. There is still plenty of scope to sell, though: at the height of the 2013 “taper tantrum” fund managers were underweight to the tune of 31 percent.

The more vulnerabilities Turkey and its lookalike countries have developed during the good times, the more they will be punished during the bad ones.

Breakingviews

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