By Peter Brennan

(SNL News) The Institute of International Finance identified South Africa, Indonesia, Lebanon, Egypt and Colombia as especially at risk of contagion from the meltdown of the Argentine peso and Turkish lira.

Emerging market, or EM, currencies weakened further on August 15 as the crash in the lira seeped into broader investor sentiment, even as the lira itself recovered. Turkey's currency continued to rebound for a second consecutive day, rising 4.86% to 6.06 to the dollar as of 10:32 a.m. ET.

Some market watchers attributed this rally to a "dead cat bounce," but IIF Chief Economist Robin Brooks said fair value for the currency will probably be about 5 to 5.5 to the dollar in the medium term.

With the pressure off of Turkey for the moment, investors were instead selling off other emerging market currencies amid fears of a contagion in the sector. The South African rand was down 2.91% to 14.66 to a dollar as of 10:40 a.m ET, while the Indian rupee was trading just below 70 rupees to the dollar, breaching that mark for the first time on August 13.

The IIF said it sees broader vulnerability among emerging market economies as a result of concentrated movement of capital into certain countries. "Flows to emerging markets became more concentrated in a few idiosyncratic cases, including Argentina that — relative to the rest of the EM complex — received strong inflows in relation to the size of its economy," the IIF said in an August 14 report. "We call this build-up of flows 'concentration risk,' and see it as a key conduit for contagion across the broader EM universe."

The Indonesian central bank took steps on August 15 to address the depreciation of the rupiah with a 25-basis-point increase in interest rates to 5.5%, taking the total tightening so far this year to 125 basis points. The Indonesian rupiah traded as low as 14,680 rupiah to the dollar earlier this week from 14,400 rupiah on August 10, the lowest level since October 2015.

Indonesia's current account deficit widened in the second quarter to $8 billion, or 3% of GDP, up from $5.5 billion in the first quarter, and seems likely to widen further in the third quarter as strong domestic demand boosts imports. The $2 billion trade deficit in July was the highest monthly level in five years.

Damage control

But Turkey and Argentina may be particularly vulnerable due to their exposure to foreign currency-denominated debt. In a research report, Wells Fargo economists Jay Bryson and Ariana Vaisey wrote that it is unlikely that Turkey is "the canary in the EM coal mine like Thailand was in 1997."

The economists wrote that the external debt of a sample of 19 large developing economies, excluding China, has swelled to $5 trillion from less than $2 trillion in 1997. But those economies have grown and are better able to handle the debt loads with free-floating exchange rates and significantly bigger stores of foreign reserves. "Reserves as a percent of external debt stand at 53% today, more than twice as high as it was twenty years ago," Bryson and Vaisey wrote.

South Africa is one of those emerging market economies with a significant current account deficit, widening to 4.8% of GDP in the first quarter of 2018, up from 2.9% in the fourth quarter of 2017, as exports declined. But Richard Briggs, EM credit strategist at Credit Sights, said the country "is not a Turkey or an Argentina."

"Most corporate debt is in local currency, and reserves aren't sold. South Africa is not like Turkey because they retain their foreign exchange reserves," Briggs said, noting that he is not concerned about Brazil either due to its "enormous" foreign exchange reserves.

"When the Federal Reserve is raising rates, people see EMs as less appealing, which adds pressure," Briggs said. "But Turkey has not suddenly become a big issue. There's been a long-standing buildup of debt. It then needs something to trigger that."

(Source: www.snl.com)