InvestNow News – 8th May – Legg Mason – Emerging Markets – Hit Me One More Time
27 April 2020 – Carol Lye, Associate Portfolio Manager / Senior Research Analyst
A black swan virus shock brought the world to its knees—dealing a particularly acute blow to emerging markets.
It was only a year ago that emerging markets recovered from the previous Federal Reserve (Fed) tightening and trade war crises. Britney Spears’s …Baby One More Time seems like an apt description for the series of shocks that emerging markets have gone through. However, this time around both developed and emerging markets have experienced large currency depreciations, yet this might morph into more of an emerging market stress than previously imagined. As we sift through the effects of COVID-19, we reflect on some of the stresses emerging markets may face and assess the road ahead.
Emerging Markets Under Stress
Chart 1 shows a comparative ranking of emerging market health systems, relative to one another and developed markets. With weaker healthcare systems relative to developed markets, emerging economies may be less equipped to handle a pandemic like COVID-19. India, Philippines, Poland, Turkey, South Africa, Mexico, and Brazil have issued an economic-wide shut down once they realised how critical the health crisis would be, although some were very late or too slow.
Healthcare Capacity
Added to the health crisis was the liquidity squeeze caused by a global rush for U.S dollar cash. Even in this environment, the traditional relationship has held up, with currencies continuing to show a strong correlation to credit spreads in the U.S. (Chart 2). With the Fed and U.S government stepping in to do whatever it takes to ease both liquidity and credit market conditions, some stress across global currencies has eased on the currency basis. To this extent, the Fed has extended swap lines to major central banks in Europe, Japan, Switzerland, Australia, New Zealand, Norway, Mexico, Brazil, South Korea, and Singapore.