Turkish lira leads emerging market currencies lower on global dollar demand

The Turkish lira and South African rand led losses for emerging market currencies on Monday after surging yields for U.S. Treasuries and the prospect of fiscal stimulus spurred a global rally in the dollar.

The lira dropped by as much as 1.8 percent to 7.49 per dollar. It was down 1.1 percent in afternoon trading local time in Istanbul. The rand fell by 1 percent to 15.44 per dollar.

A victory for U.S. Democrats in both the House of Representatives and Senate is intensifying speculation about more fiscal stimulus in the world’s largest economy, pushing Treasury yields higher. That is bad news for emerging markets, who rely on a so-called ‘risk premium’ in the price of their assets to attract buyers.

“The dollar is so extremely oversold, over-hated, and over-shorted that it all but has to rally for a while at some point soon,” said Matt Maley, chief market strategist at Miller Tabak + Co., according to Bloomberg. “The dollar is getting very ripe for a tradable bounce - one that will last at least several weeks and maybe even a couple of months.”

The Turkish lira was one of the world’s worst-performing currencies last year after government stimulus, aided by negative central bank interest rates, made the lira unattractive to many local and foreign investors. Dollarisation of the economy ensued, forcing the central bank to more than double its benchmark interest rate to defend the currency and rein in inflation. Tighter monetary policy has helped spur a lira rally in recent weeks.

Demand for imports in Turkey, caused by the low interest rates, has widened Turkey’s current account deficit sharply, increasing investors' concern about the lira. Official data on Monday showed the current account gap for November growing to $4.06 billion, the highest level since August, from $15 million in November 2019. The 12-month deficit now stands at $38 billion, or 5.2 percent of economic output of $736 billion.

The central bank is next due to meet on interest rates on Jan. 21. Many economists are urging monetary policymakers to raise rates again to keep the lira attractive to foreign investors and to curb demand for dollars among locals.

Higher world oil prices are also pressuring inflation across the globe, which could reduce real returns from bonds. Inflation in Turkey stands at an annual 14.6 percent, the highest level in major emerging markets after Argentina, compared with the central bank’s benchmark interest rate of 17 percent.

The South African rand is also under pressure due to the country’s worsening coronavirus crisis, sluggish vaccine supplies and concerns about budget balances, which are being exacerbated by rising debt. Turkey has also been comparatively slow to secure vaccines for its 82 million citizens. Any delays in vaccinations potentially hurt a country’s economic growth prospects.

Fidelity International, one of the world’s biggest asset managers, has cut its overweight position on emerging market bonds, saying it is watching the U.S. dollar and U.S. interest rates closely.