BRICS, MINT and a Fragile Five: Where EM Groupings Go Wrong
Acronyms and clever labels might be catchy. But as Turkey shows, they can be pretty tenuous as well.
Finance and economics love a good acronym. During the dot-com boom and bust of the turn of the century, Portugal, Italy (or Ireland), Greece and Spain got collectively slapped with the unsavory PIGS label. Then in 2001 came the optimistic BRICs — Brazil, Russia, India and China — coined by economist Jim O’Neill. South Africa joined sometime later to make that last “s” uppercase. Of the BRICS, Brazil, India and South Africa have since been drafted into the BIITS, or “fragile five,” which also encompasses Indonesia and Turkey. And in turn, two of the BIITS have been shuffled into yet another acronym, coined by Fidelity Investments but largely popularized by O’Neill: MINT, or Mexico, Indonesia, Nigeria and Turkey. If this sounds like a particularly convoluted game of Scrabble, there is a point. Going from weakness to strength in the currency markets can produce a quickly shifting game of perception.
The term fragile five was coined last August by Morgan Stanley’s research group. It gathers five emerging markets beset by current-account deficits and with a heavy reliance on foreign capital inflows. The concern during the past six months has been that the Federal Reserve’s wind-down of quantitative easing would lead to a wave of capital outflows from these countries and exacerbate their current-account deficits. This month the World Bank forecasted that a disorderly tapering process could see financial flows to developing countries decline by as much as 80 percent for several months.
So far, the first stage of the taper has not led to outflows from the fragile five. The individual economies remain susceptible, but since the term was coined , they have experienced some divergence in fortunes.
“We have been using our ‘fragile five’ term less and less in our research notes,” says James Lord, emerging-markets strategist at Morgan Stanley in London, who was one of the authors of the original fragile five report. “It doesn’t fully reflect the nuances of our views on the market anymore. Although none of the five are out of the woods, there have been a variety of policy responses and a shift in the performance of the five from a macro perspective.”
Running at the back of the fragile five pack is Turkey. The country’s financials have gone awry on the back of a spate of roundups and arrests in connection with an antigraft probe that started December 17 involving several high-ranking government and business officials with connections to Prime Minister Recep Tayyip Erdogan’s Justice and Development Party (also known by AKP, its initials in Turkish), including the chief executive of Halkbank, Turkey’s third-largest state-owned lender. Allegations from prosecutors include bribery in connection with construction projects, money laundering, smuggling gold and under-the-table deals with Iran.
On top of the worst political crisis since the AKP assumed power in late 2002, the country will have its first-ever presidential elections later this year. Prior to a 2007 amendment to the Turkish constitution changing the presidency to a directly elected office, the president, presently longtime Erdogan ally Abdullah Gül, was selected by Parliament.
“Turkey is facing a perfect storm,” says Nima Tayebi, currency and emerging-markets debt strategist at J.P. Morgan Asset Management in London. “It has a current-account deficit, there is the political noise, the fund inflows are not there, and you have the corruption investigation. At the same time, the central bank is dovish, which is not attracting outside investors with higher returns for the currency.”
The Turkish lira has been on a steady skid against the U.S. dollar in the wake of the corruption scandal. Trading at 2.05 the week of December 16–22, the lira hit 2.29 in early trading on January 23, an all-time low since the currency’s January 1, 2005, redenomination to remove the six zeroes racked up during Turkey’s 2001 economic crisis. For the first time in two years, the Turkish central bank directly intervened in its forex markets on January 23, citing in a statement “unhealthy price developments.” The lira recovered to 2.25 by the Istanbul market close but on the 24, dropped again to a record-low 2.33 against the dollar.
According to Abbas Ameli-Renani, a London–based emerging-markets research analyst at Royal Bank of Scotland, the lira has even more room to weaken “comfortably,” up to 2.40 against the U.S. dollar. The volatility in December was only the capstone on the lira’s sluggish 2013. A year ago, the lira was trading at around 1.75 against the dollar and has been declining since.
“Yes, the currency has sold off, but we’ve not seen the full extent of the adjustment yet,” says Ameli-Renani. “You had outflows of $3.4 billion in June and July, but overall in 2013 you still saw $24 billion of inflows.” Ian Bremmer, the founder of think-tank Eurasia Group, had even more critical words in a January 23 video interview with The Wall Street Journal. “Turkey is no longer an emerging market,” he said. “The crisis in the country will only end when the country’s leader, Erdogan, quits.”
And yet, stepping back into the world of acronyms, Turkey is part of MINT: four emerging-markets countries deemed ready to experience sustained growth. O’Neill, a big proponent of the MINT label, has seen his more famous phrase, BRIC, last more than a decade — so it might be worth paying attention to him. His own view is that “many put far too much weight on the negative issues that are well known.” So, whom should you trust?
In reality, the life of country groupings can be as short as a gnat’s existence. “There is such a dispersion around the fragile five that this kind of thing has a limited shelf life,” says J.P. Morgan’s Tayebi. “It is a short-term market. Things move fast, so deciding whether we go into these markets happens from a combination of factors.”
One analyst at a U.S.-headquartered bank in London is more scathing. “Some of these acronyms make no sense whatsoever,” he says. “Someone comes up with a catchy word and tries to come up with countries that fit it. I’m not trying to denigrate Jim O’Neill, but Mexico and Nigeria are at such different stages of development, it makes no sense to group them together.”
The upcoming Turkish election, as well as how the government steers its course through the present corruption scandal and economic fallout, could have a big role in deciding if the “T” in Turkey belongs more among the fragile BIITS than the stable MINT.
As for the others in the fragile five, robust policymaking has helped to alleviate some of the gloom.
BRICS member India has made the most progress of the fragile five. Restrictions on gold imports instigated by the government last year have helped shrink the current-account deficit. At the same time, inflation is down and political expectations are reasonably well balanced. Of the fragile five, India is the only country in which J.P. Morgan Asset Management has invested, says Tayebi.
Meanwhile, Brazil, the other BRICS member of the fragile five, hiked interest rates by 0.5 percent this month, to 10.5 percent, its seventh rate rise in nine months, which looks to have increased its attractiveness by ensuring there is a substantial carry for investors to compensate for risks. Of the five, Brazil offers the highest real carry of 3.3 percent, compared with Indonesia, the worst at negative 4 percent. Indonesia has raised rates by 1.75 percent since June to slow capital outflows. Combined with the weaker currency, this should help bring the current-account deficit to 2.5 percent this year.
South Africa has been another of the laggards in recent times, with internal political strife and wasteful financial expenditures, which, analysts believe, will cause its gross domestic product to dip below 2 percent this year, from a peak of 5.6 percent in 2006. Nonetheless, the rand has been weakening for a while, and with low inflation and lower currency-linked risks, South Africa might not experience the shock that Turkey has.
Stephen Jen, managing partner and co-founder at SLJ Macro Partners, a cross-currency hedge fund in London, believes that the fragile five could this year be joined by other emerging-markets countries — in particular, Russia, Ukraine, Hungary and Mexico — all of which may slide as long-term rates in the U.S. rise. His own view is that on the whole economic acronyms can lead to oversimplistic currency groupings. “India, Brazil and Russia were bunched together as the BRICS,” he says. “People thought that because these are large countries, they will all do well. It was far too simplistic a view. Now investors are realizing these countries have fiscal and trade deficits, low literacy, poor governance and underdeveloped infrastructure, even after a decade of economic prosperity.”