How Contagious Is Turkey?

The Turkish lira has dropped 35% as of August 16, putting pressure on inflation as well as the country’s debt-heavy corporations and banks. Investor jitters have spread over the past week to some other emerging markets and European banks with Turkish exposure, but we don’t expect contagion to expand much further from here.

To be more specific, despite the recent turmoil and Turkey’s fundamental challenges, we don’t believe that markets are in for an emerging-market collapse on the order of the 1997 Asian financial crisis, a European financial crisis or global contagion.

That’s not to say that Turkey’s situation won’t get worse before it gets better, or that some global investors won’t sell out of emerging markets. But at the end of the day, Turkey’s problems are highly country specific, and there are still worthwhile opportunities across emerging markets. In fact, the sell-off may create more attractive entry points in certain assets.

But if there were ever a time to be highly selective and active in fast-changing markets, this is it.

There’s No Place Quite Like Turkey

When one emerging country runs into trouble, nervous investors tend to look for others with similar problems. But the scale and mix of Turkey’s issues is unique.

For one thing, Turkey owes a lot of money—53% of GDP—in foreign currencies, one of the highest foreign debt loads in the developing world. Turkish corporations did the bulk of the borrowing, encouraged by a decade of easy money in the developed world and a government program that guaranteed bank loans to businesses.

Turkey also has one of the highest current-account deficits in the emerging world at 7.1% in the first quarter of 2018. Meanwhile, the country’s foreign-currency reserves cover only some 75% of upcoming debt payments, lower than the vast majority of emerging economies.