High-Yield Currencies

A regular commentator (Price chart), with good opinions, have highlighted the other high-yielding currencies since I have highlighted the NZD. They make for some interesting conclusions.

Price chart: "Since NZD is being single out, we can also look at others JPY crosses in order of yield differential. (central bank rates)
NZD/JPY 8-0.5=7.5
AUD/JPY 6.25-0.5=5.75
GBP/JPY 5.5-0.5=5
USD/JPY 5.25-0.5=4.75
CAD/JPY 3.75 (NET)
EUR/JPY 3.5

Now if you look at the monthly price chart of the above: NZ is all time high level. OZ is all time high. GPB is 8 years high (on the verge of breaking out a big base.) USD is at 5 years high. What can keep the motion going? As long as the big gap of yield dirrential exists. How can the tide turn?and When? Narrowing of yield differentials. Yesterday, the AUD/JPY went back up to high point and NZD recovered from the sell down. CAD/JPY is going strong while USD, GBP and EUR maintain strength against JPY.

BTW, some other countries that have equal or higher rates than NZD:
Brazil 12.5
Turkey 17.5
Iceland 14.25
Hungary 8.0
South Africa 9.0
Egypt 8.75"

A study by the World Bank on imploding emerging markets currency a few years back noted that there are a few leading indicators: current account deficit, budget deficit and a contraction in GDP growth. Right now, the above emerging markets currencies are riding on strong surpluses and a firm economic growth model, with the exception of Turkey, South Africa and Hungary in particular as their deficits are large. Let's just highlight the most vulnerable emerging markets currency according to the 3 cited leading indicators and their respective high interest rates:
Highly Vulnerable To Imploding: Icelandic krona, Turkish lira, NZ dollar, Hungarian forint
Vulnerable To Imploding: South African rand, Brazilian real, Polish zloty
Somewhat Risky: Phillippine peso, Indonesian rupiah

Owing to the previous financial implosions of the past, many emerging markets have been over-exuberant in trying to accumulate foreign exchange reserves to serve as a buffer in the event of any similar crises. These reserves can be used as an intervention tool. More importantly, it gives a good image on "good balance sheet management" to the world. Let's look at the current top 10 reserve holders (USD billions):
1) Japan 834
2) China 822
3) Taiwan 257
4) S. Korea 210
5) Russia 176
6) India 132
7) HK 124
8) S'pore 116
9) Mexico 74
10) M'sia 70

Absolute reserves is not as useful an indicator. It has to be as a percentage of something meaningful. If we were to make it a percentage of Short-Term Debt, China will be at #1 with more than 11x coverage, followed by Taiwan 6x, Russia 4.2x, India 4.1x, Malaysia 3x, Mexico 2.7x and South Korea 2.6x. The rule of thumb is that 1x is adequate already. Other indicators that could be used are reserves as a percentage of M2, reserves as a percentage of months of import coverage. On all these measures, the countries that come out tops are: China, Taiwan, Russia, Malaysia and India - in that order. Hence for these countries, the risk for an emerging markets currency implosion scenario is very minimal, almost non-existent.