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Why the emerging market currency drop became a rout and when it might end

posted on January 27, 2014 at 3:15 pm
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The End is Near

A brief survey of the big investment banks’ favorite currency trades as of the end of 2013 shows why the current sell off in emerging market currencies and financial assets has been so violent—and it also gives me a sense that the worst of the damage isn’t that far from being over. (The worst of the damage, in this case, means that emerging markets may stop plunging on fear; it doesn’t mean that emerging markets are about to stage a recovery. The fundamentals from China to Brazil remain sufficiently negative to keep the downward bias intact for most emerging markets. But I can see that downward trend turning into something less severe on a day to day basis than the 1.9% drop in the MSCI Emerging Markets Index as of 2 p.m. New York time today.)

Here’s a sampling put together by Bloomberg of end of 2013 best currency trading ideas from the big banks:

November 24 Bank of America picked long Mexican peso and short Japanese yen. The peso would climb to 8.4 yen, Bank of America forecast. Last week the peso fell 3.5% to 7.6 yen.

In December Danske Bank, Denmark’s largest bank, recommended buying Turkish lira and selling Danish krone as one of its 10 best ideas for 2014.

Societe Generale had put on a trade buying South African rand and selling Hungarian forints.

A few things pop out at me from these and other examples.

First, there was a lot of money at the end of 2013 that was willing to bet on emerging market currencies picking up strength in 2014.

Second, a large number of these trades have been reversed in the last two weeks. Societe Generale closed its rand/forint trade on January 16 after losing 1.2% in two weeks. Danske Bank ended its lira/krone trade by January 2 after Turkey’s current corruption scandal escalated.

And third, the size of the moves in currency markets have taken trading desks by surprise since they have been so much greater than historical volatility. Drops in the rand and Turkish lira were 2.5 times the normal trading range, Bloomberg calculates. The greater than expected size and speed of these drops led trading desks to rush to close out their trades before the damage got worse—which, of course, made the damage get worse. This isn’t to say that this most recent drop is unprecedented in emerging market currencies—Bloomberg’s emerging market currency index shows a 2.7% drop in this rout, but that index fell 3.7% in May 2013. I doubt that’s comforting, however, since all it really demonstrates is that selling now makes sense given the record of even bigger drops in these currencies.

All this closing out of trades is actually a good sign. Once currency traders are back in cash and once they’ve licked their wounds, they’ll start sifting through the wreckage to see if they can find new trades to put on to recoup some of these losses. The most common theme I’m hearing now is to go long the currencies of exporters such as Korea (won) and Mexico (peso.)

Money flowing in those directions wouldn’t end the downward pressure on the currencies of countries with big current account deficits—Brazil, South Africa,Turkey, India, and Indonesia to name a few. But it would be enough to turn indiscriminate selling into discriminate selling.

At that point, I’d be willing to do some bargain hunting in selected emerging markets. (And in Japan after more traders cover their yen shorts.)

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  • dxia on 27 January 2014

    South Korean, Mexican exporters and small cap companies here are things to look at. Their sell-off is overdone! I’ve already picked up some already. Don’t forget the big picture – Global recovery is ongoing.

  • greedibanks on 27 January 2014

    Thanks Apple. It just occurred to me that that earnings report was responsible for sinking Qualcom which I do own.

  • johnresearch on 28 January 2014

    Nothing to do with banks, but you need to know the following.
    My Jubak Alerts by email stopped functioning in the New Year, and all I got were adverts advertising your for-sale services. I thought: he said last year he might have to charge, and here it is.
    But today I Googled “Jubak Picks” and got onto your usual page. I attempted to re-register, but was told I was already registered, and was invited to change my profile. I did this, re-entering my email address. Maybe the emails will re-start.
    I copied the url of Jubak Picks into the URL box at the top of my Internet Explorer v.10 so it would be remembered in the url list, but on redirection this took me to a very blue web-page I had not seen before, even though “Jubak Picks” was all over it. None of the links seemed to get me to the yellow Jubak Picks page.
    So I can access you via a Google search, and hopefully again via your emails. We’ll wait and see.
    I dropped you I think it was $20 last year, in gratitude for your free service.
    John Brown

  • alovasz on 28 January 2014

    If you don’t own Apple and after its drop per share from its quarterly report, what entry price would you recommend?

  • dxia on 28 January 2014


    Apple is cheap if you only look at it from valuation perspective. However, its problem is its own size. There’s nothing that you can compare it with. I bought it long time ago and sold it after it got to 400. It’s easy to buy it 400. However, if you buy it at 500, what would be your target price? 1000? I’m not saying it won’t reach 1000 some day. What I’m saying is that there are better companies for your long term holding.

  • dxia on 28 January 2014

    what happened to my comment. Guess it doesn’t like “”. It should be,

    “it’s easy to buy it less than 100 and sell it at 400.”

  • Jim Jubak on 28 January 2014

    Ahh, software. I don’t have any idea why your alerts stopped arriving. I haven’t changed anything at my end. I’ll try to track the problem down–or at least refer it to someone who can fix it.

    Can you drop me a line at my jubakspicks@gmail.com personal address so we can communicate a bit more effectively.

    Thanks. And sorry for the aggravation.

    You should be able to get onto the jubakpicks.com website whether you’re registered or not. Just won’t get the alerts or see the portfolios. I’ll try to get this addressed.

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