World’s riskiest markets stumble into crisis with scarce dollars

(Bloomberg) — Hospitals are delaying surgery in Sri Lanka. International flights suspended in Nigeria. Car factories closed in Pakistan.

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In some of the world’s most vulnerable developing countries, the situation on the ground is dire. Dollar shortages hamper access to everything from raw materials to medicines. Meanwhile, governments are grappling with their debts as they chase bailouts from the International Monetary Fund.

This forces a rethink of the bullish consensus in emerging markets that swept Wall Street just a few months ago. Granted, few expected the challenges facing some frontier economies to be resolved this year, but the pain has deepened alongside a rebound in the greenback.

While turmoil on the fringes of the developing world is unlikely to drag down the asset class as a whole, some say it will force fund managers to be increasingly tactical in their asset allocations. investment in the coming months.

“There is a real crisis brewing in these troubled countries and for some things may get even worse,” said Hasnain Malik, emerging and frontier markets strategist at Tellimer in Dubai. “Investors will need to be even more vigilant in screening for vulnerability and differentiating country risk to avoid being surprised by the next Ghana or Sri Lanka.”

In Pakistan, factories have ceased operations in recent months as they lacked hard currency to import raw materials. In Sri Lanka, the government has set a limit of 20 liters of fuel per person per week and public hospitals are postponing elective surgeries due to shortages of drugs and other medical supplies.

Not to mention the international carriers which have suspended their flights to Nigeria due to the difficulty in repatriating dollars from the country. In Bangladesh, power producers are demanding $1 billion in foreign currency from the central bank for fuel imports to avert an impending energy crisis. Malawi is also facing shortages of pharmaceuticals, fertilizers and diesel amid falling imports due to the dollar crisis.

JPMorgan Chase & Co.’s Next Generation Markets Index, which tracks dollar-denominated debt in what it calls pre-emerging countries, fell 0.4% last month, the largest since September. And amid recent dollar strength, the currencies of Ghana, Egypt, Pakistan and Zambia have slumped far more this year than their global counterparts.

This is prompting some fund managers to adopt more cautious approaches, a break from the widespread optimism in emerging markets seen at the start of the year.

“These countries are mired in economic collapse, and some like Pakistan are on the verge of another default,” said John Marrett, senior analyst at the Economist Intelligence Unit in Hong Kong. “Most of their economies are in trouble. Coins are worth a lot less too.

Frontier markets could continue to face external challenges this year, including a still-strong U.S. dollar, high yields and difficulty accessing the bond market, Fitch Ratings wrote in a Monday report. A drop in reserves could also lead to more credit rating downgrades, he warned.

More risk-averse fund managers, on the other hand, seek attractive yields on the debt of governments that have managed to control their budget deficits and relatively stable currencies. Barclays Plc has named Mexico and Colombia as nations moving towards further fiscal consolidation.

Dangerous cycle

For countries like Sri Lanka, the problems began years ago when authorities spent precious hard currency reserves to keep local exchange rates artificially high.

But it was Russia’s war in Ukraine and the Federal Reserve’s aggressive policy tightening that pushed the dollar to generational highs. This pushed many frontier economies closer to the edge as soaring energy and food prices emptied their coffers.

“It’s tempting to say there’s an emerging market crisis because of Fed tightening, but that takes the human agency away from policymakers in some countries that were adopting unsustainable fiscal policies,” said Samy Muaddi, Head of Emerging Markets Fixed Income at T. Rowe. Prices in Baltimore. “That said, tighter financial terms now expose the policies of some of these countries that are proving unsustainable.”

About two dozen countries are lining up for aid from the International Monetary Fund, although progress has been slow for countries hobbled by debt negotiations. The year has already seen several indebted countries – including Egypt, Pakistan and Lebanon – lower their exchange rates as they try to release bailout funds, as traders brace for a possible wave of devaluations.

For Brendan McKenna, economist and emerging markets strategist at Wells Fargo Securities LLC in New York, those willing to take the risk can find opportunities in countries with a clear reform agenda and a path to official lender support, such as the IMF.

“Pakistan, Sri Lanka and Ghana – maybe now is not the time to deploy capital there,” he said. “But Egypt could be an opportunity if the IMF program succeeds in supporting the economy while tough reforms are implemented.”

What to watch

  • China will be the center of attention as the National People’s Congress, which opened on March 5, will set the economic and social agenda for the coming year. The country will also release data on exports, consumer price inflation and ex-factory prices over the coming week.

  • Traders will be watching inflation figures from the Philippines, Thailand, Russia, Mexico and Chile.

  • The Polish central bank is expected to keep its key interest rate at 6.75% at the end of the country’s tightening cycle. Bloomberg Economics expects the next move to be a rate cut, potentially in the second half of 2023.

  • Bank Negara Malaysia will likely keep its benchmark rate unchanged.

  • Peruvian policymakers will meet on Thursday to decide on their key rate.

  • Brazil’s IPCA data for February will likely shed light on the pace of disinflation, according to Bloomberg Economics.

–With help from Selcuk Gokoluk, Colleen Goko, Anusha Ondaatjie, Faseeh Mangi and Liau Y-Sing.

(Updates with Fitch warning on rating downgrades in 11th paragraph)

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