Asian currencies have slumped across the board against the dollar – the JPMorgan Asian Dollar Index has lost 4.3% this month, its biggest loss since December 1997. The collapse in emerging market currencies in recent weeks has happened in a series of waves: the first saw equity currencies – those highly correlated with local equity markets such as the Taiwanese Won and the Indian Rupee – underperform as stocks shed value. So-called EM bond currencies outperformed.
| Bloomberg JP Morgan Asia-Dollar Index this month |
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| Source: Bloomberg |
The second wave was almost self-fulfilling, as currency overlay managers raised currency hedge ratio requirements on underlying stock and bond positions. This move saw greater selling pressure on local currencies in the past two weeks, causing them to slide further. The beginning of a third and final stage involving outright capitulation of underlying positions has emerged this week. Substantial positions have been built up in emerging markets bond funds in the past year and there is a risk that the currencies of Indonesia, Malaysia and Korea are now even more vulnerable to a reversal of the strong flow of capital.
The fall in Asian currencies, which may have been started to cover losses in other markets, has now accelerated as fears of weakening global growth and policy inaction in the eurozone have increased risk aversion in emerging markets. A steady deterioration in the west, particularly Europe, has finally triggered sell-offs in risk markets, according to Callum Henderson, head of emerging market strategy at Standard Chartered.
“Emerging markets have decoupled for some time but they can’t decouple forever; we are starting to see contagion spillover into EM as a result of the problems in the west in general, particularly in Europe,” says Henderson.
Traders at a US bank, who told EuromoneyFXNews that they have experienced close to record volumes in emerging market outflow this week, also expressed concerns that the size of positioning in EM that has built up over the past year may be greater than the liquidity in local FX markets, leaving Asian currencies open to very sharp moves in times of market stress.
Henderson warns that the small recovery seen on Friday may be shortlived and volatile moves in emerging market currencies may lie ahead if problems in the eurozone in particular make little progress. “Most private-sector capital is in US, Europe and Japan – when that goes home that hurts riskier assets. Given the size of positions that are out there, if significant positions try and get out at the same time, we could see gapping in the currency markets and we started to see in some EM currencies this week.”
Whatever happens in the near future, HSBC still maintains a positive outlook for Asian currencies over the medium term. Dominic Bunning, emerging market strategist at the bank says that for most of the year Asian data has been pretty much inline with expectations whereas numbers coming out of the G10 have been disappointing for some time.
“The recent moves haven’t been due to fundamentals in Asia. Should we see a revival in market confidence in developed markets and a return to stability, there’s every chance we will see most of the recent moves retraced” says Bunning.