© Reuters. FILE PHOTO: Turkey Lira banknotes are seen in this illustration
By Karin Strohecker
LONDON (Reuters) – Turkey could be heading for yet another financial crunch, but its diminished importance to investors in developing economies and sector changes has greatly reduced the risk of infectiousness in emerging markets.
Lira, who tumbled to fresh record lows last week, made recoveries from the 2018 Turkey crisis, which created development currencies from to Russia’s ruble and also affected holdings in Turkish-exposed European banks.
But even this reaction was subdued compared to previous decades, when contagion from one new market to another was taken for granted, such as during the Asian crisis or the Russia crisis.
The reverberation this time may be even lower in scope, because investor positioning generally in new markets and especially Turkey looks dramatically different than summer 2018.
“Foreign investors’ participation in Turkish markets has collapsed over the past several years, with non-residents now holding only 6% of (Turkish government bonds), down from 29% in 2013,” said Phoenix Kalen of Societe Generale (OTC 🙂 .
Institute of International Finance data showed emerging markets suffered a “sudden stop” in capital flows in March with a record $ 83.3 billion in volatile stocks and bonds amid uncertainty over the coronavirus spread and oil price.
Turkey, which is more vulnerable to fluctuations in capital flows, so that the amount of domestic assets held by foreign investors falls sharply. Foreign residents ’domestic debt fell from $ 15.5 billion in late 2019 to $ 8.4 billion in early May. In the same period, non-resident investors’ equity fell from $ 32 billion to $ 22 billion, central bank data shows.
“Similarly, there is far less foreign participation in Turkish foreign exchange markets due to interventionist policies, frequent new rules and the occasional funding pressures,” Kalen added.
In recent years, Turkey has been thinking several times about offshore lire markets with President Recep Tayyip Erdogan, who often accuses foreign speculators of destabilizing lira.
In April, the regulator limited local banks’ ability to conduct foreign exchange transactions with foreign entities at just 1% of equity, down from 10% previously – a move that triggered a dampened market reaction. Days later, it lowered this limit to 0.5%.
A similar offshore 2019 lire button saw overnight loan rates rise to over 1,000%, which in short boosted lira.
This comes amid a long fall in overseas lira trading with an average daily trading volume in London, having shrunk by 28% from 2016 to $ 37 billion last October, while the share of total currency trading slipped to 1.3% from 2, 3%, shows data from Bank of England.
GRAPH: Turkish lira in offshore markets – https://fingfx.thomsonreuters.com/gfx/editorcharts/jznvnmkaplm/eikon.png
Turkey’s declining weighting in bond indices also lowers investors’ risk. In the JPMorgan (NYSE 🙂 GBI-EM index – a widely used new mandatory benchmark for local bonds – it has a weight of 3.2% compared to 10% in 2015.
“Turkey has been a source of concern among foreign investors for so long,” said Manik Narain, head of EM strategy at UBS. “There is not the same degree of hit to return on asset management, it is not the same as if Mexico or Brazil burst.”
Unlike Turkey, many emerging markets have also seen some vulnerabilities to external flows decline in recent years. Since the weaker tantrum in 2013, current account deficits have largely disappeared, while the focus is on a debt-to-currency reserve in smaller, riskier, emerging markets.
Meanwhile, new markets as an asset class have also changed – there are more countries to invest in and a much broader investor base, including local pension and insurance funds holding on, even as foreigners sell.
“You’ve seen markets expand in size, liquidity is improving, and we think they’re becoming more sophisticated, so investors are more willing to differentiate individual land risks,” said Nachu Chockalingam at Federated Hermes (NYSE :).
GRAPHICS: Emerging Markets are more mature – https://fingfx.thomsonreuters.com/gfx/mkt/yzdpxogxzvx/Emerging%20markets%20are%20more%20mature.JPG