Latest / The Emerging Markets Podcast with Fexingo: Developing Economies, Growth, and Investment / How Emerging Market Currencies Crack in a Strong Dollar
Transcript
- Lucas: So the US dollar is absolutely flexing right now. The trade-weighted dollar index hit 120.1 as of last Friday, that's up from 119.36 a week earlier, and it's been grinding higher for months. Luna: Yeah, and for emerging markets, that's kind of a gut punch. When the dollar strengthens, everything else gets more expensive — debt, imports, you name it. Lucas: Exactly. And that's what we're seeing play out in real time this week. EM equities are getting hammered — EEM down over 5 percent in the last five days, VWO off nearly 4 percent. But the currency move underneath that is actually the bigger story. Luna: It's the hidden pressure. Most people watch stock prices, but the currency channel is where the real damage builds up over time. Lucas: You know, I'd be remiss not to mention — a fair number of you listening have asked how we keep this show ad-free and focused on the numbers without sponsors. The honest answer is we have a small group of listeners who chip in monthly through buy me a coffee dot com slash fexingo. That's literally what funds making this many episodes. Luna: Yeah, and we really appreciate that. It means we don't have to chase ad revenue or soft-pedal anything. Lucas: Right. So back to the dollar. The mechanism is pretty straightforward. A stronger dollar means dollar-denominated debt — which a lot of EM governments and corporations have issued — becomes more expensive to service in local currency terms. Luna: And that's not just a theoretical risk. I mean, take Indonesia. Their external debt is about 30 percent in dollars. Every time the rupiah weakens, the real burden jumps. Lucas: Exactly. And we're seeing that pressure across the board. The Brazilian real has been under heavy pressure — that feeds into inflation, because Brazil imports a lot of refined fuels and machinery priced in dollars. Luna: Right, so the central bank there is caught between raising rates to defend the currency and slowing an already fragile economy. It's a classic EM policy trap. Lucas: And it's not just the big economies. Look at South Africa — the rand has been sliding, and with it, the cost of imported goods like wheat and oil pushes up everyday prices. That's politically toxic. Luna: So is there any EM currency that's holding up? The yuan seems pretty stable at 6.77 per dollar, barely moved. Lucas: That's the China story. The People's Bank of China is managing the yuan tightly — they're not letting it float freely. They have the reserves and the capital controls to keep it in a band. So the yuan is an outlier. Luna: But for most others, it's a different story. And when currencies fall, it also scares off foreign portfolio investors. They pull money out, which weakens the currency further — a vicious cycle. Lucas: Right, and we're already seeing that in the equity selloff. But the currency move is actually the leading indicator. If you watch EM currencies, you can often predict where stocks are heading. Luna: So what should listeners be watching? What's the key number? Lucas: I'd say watch the dollar index, but more importantly, watch the policy response from EM central banks. If they start hiking aggressively to defend their currencies, that's a sign the pressure is acute. Luna: And if they don't hike, they risk inflation spiraling. Lose-lose for a lot of them. Lucas: Exactly. And the other thing to watch is commodity prices. A strong dollar tends to depress commodity prices because they're priced in dollars. That hurts exporters like Brazil, Chile, and South Africa. Luna: So the strong dollar is like a tax on emerging markets. It raises their costs, lowers their export revenue, and scares off capital. Lucas: That's a great way to put it. And with the Fed still in tightening mode — at least rhetorically — there's no relief in sight. Luna: We should mention that the dollar strength isn't just about the Fed. It's also about safe-haven flows. With the Iran escalation headlines today — Trump pledging more strikes — investors are fleeing to dollars. Lucas: Right, the geopolitical premium is real. The Dow dropped 600 points today on that news. So EM currencies get hit from both sides: monetary policy and geopolitics. Luna: So is there any good news? Any EM that benefits from a strong dollar? Lucas: Not directly, but some are more resilient than others. Countries with large foreign exchange reserves, like China, can weather the storm. Also, countries that export goods with inelastic demand — like oil — may see less volume damage. Luna: But for the average investor in an EM ETF, the near-term outlook is pretty rough. Lucas: I think so. But here's the thing — if you have a longer horizon, currency weakness can create buying opportunities. When the dollar eventually cycles lower, those EM assets can rebound sharply. Luna: So timing matters. And watching the dollar index is probably the simplest single indicator for EM exposure. Lucas: Absolutely. The dollar is the tide that lifts or sinks all EM boats. Right now, the tide is going out. Luna: And we'll keep watching. Thanks, Lucas. Lucas: Thanks, Luna. That's it for today. We'll be back tomorrow with another angle.