Turkey’s currency crisis has spooked emerging-market (EM) investors, especially amid growing concern about the strengthening US dollar. We think countries and companies in the developing world are actually much more resilient to a stronger dollar than in the past.

The recovery of EM assets from early 2017 until the beginning of 2018 coincided with a steady weakening of the dollar. It may be more than just coincidence. In fact, many analysts see the greenback´s downturn as a major contributing factor to EM outperformance. Yet the reality is more complex. EM equities fared better in the face of dollar strength from September 2014 to June 2015, and did poorly from then to early 2016—even as the dollar was stable (Display).

Investors Pull Money from EM Funds

But as the dollar has appreciated this year, EM assets have struggled. Dollar-denominated EM bonds have dropped 3.6% this year through May 29, while EM stocks have slipped by 2.1% (in USD terms). Investors have reacted already, pulling money out of EM equity and debt funds over the last month, following four months of strong inflows.

Conventional wisdom suggests that a stronger dollar is a problem for EM borrowers, who are forced to repay debt at a less favorable exchange rate. Many analysts see the dollar´s comeback as an indication of more general liquidity tightening, or a sign that risk appetite is waning, which also adds challenges to EM assets.

Dollar Strength in Perspective

These are good points—but warrant some perspective.

Despite the dollar’s rebound in recent weeks, it’s still trading about 8% lower against other major currencies than at its peak in early 2017, and remains in line with its five-year average. As a result, we think the exchange-rate pressure on EM borrowers is manageable.

Liquidity pressure may also be overstated. While liquidity may be tightening globally at the margin, investors should bear in mind that this move is starting from very loose levels. And most major central banks are widely expected to keep accommodative policies in place, at least for the remainder of this year.