Bumpy road ahead for emerging currencies

Written by Reuters | London | Updated: Aug 29 2013, 13:51pm hrs
Emerging market currencies, such as the rupee and the Turkish lira, have plunged to record lows against the dollar and trends in the derivatives market indicate little respite ahead.

One-month implied volatility, a gauge of expected swings in some emerging market currencies and derived from options prices, has jumped to its highest in years, reflecting investor nervousness.

While for the rupee and the Indonesian rupiah implied volatility is at its highest since 2008 and 2009 respectively, Turkish lira volatility is at levels last seen in early 2012. That means more sharp moves are likely over the coming month. "The story is the impact of rising US Treasuries on current account deficit currencies and that is fuelling the rise in implied volatility on these currencies," said Sebastien Barbe, head of emerging market currency strategy at Credit Agricole in Paris.

Demand for bets favouring the dollar has mushroomed since the Federal Reserve signalled in May it could start withdrawing monetary stimulus, perhaps as early as next month. That drove US Treasury yields to two-year highs. So long as yields were stuck near record lows, cheap money printed by the Fed made its way to emerging countries for higher returns. That helped countries dependent on foreign capital inflows to plug gaps in their external accounts.