Turkey’s 15 minutes under the stage lights appeared to over in August, as TL came under increasing pressure and stocks faced deluges of sell-orders week after week. Turkey’s CDS premia and FX denominated bonds did relatively better, but there, too, the rally was clearly over.
Has Turkey failed investors once again, proving her ageless role as value trap for the naive? The jury is still out, but the answer is probably not–yet. Most of the drivers of poor performance appear to be related to universal Emerging Markets (EM) concerns, while Turkey’s austerity and reform story was marred not by signs of back-tracking by Erdogan, but rumors of economy czar Simsek’s resignation, still a popular topic in Turkish financial press, but warranting little merit.
Let’s start with the pressure on the TL. A lot of is factually driven by EM woes:
“Latin American currencies dropped on Thursday as new data pointed to a stronger US economy, pushing up Treasury yields. Political concerns in Mexico and Brazil exacerbated the move”, reports Bloomberg.
“Elsewhere, the cost of borrowing Turkish liras overnight in the offshore market jumped on Thursday, as traders exited so-called carry positions amid a steady decline in the currency, continues to article. Yet, the decline is not engineered by the Central Bank, which remains committed to the “strong TL” policy but fleeting processes:
“This is a carry unwind, I think, not a portent of a fundamental or policy shift,” said Nafez Zouk, an emerging-market debt analyst at Aviva Investors Global Services Ltd. “To us, fundamentally, nothing has changed. The macro re-balancing remains on track.”
Moving on to equities, which lost close to 9% in value in USD terms in August, Bloomberg once again wrote an excellent article stating:
“In a month that saw global stocks roar back to almost all-time highs, Turkey stands out for its dismal performance as the combination of high interest rates and inflation erodes corporate profits.
Turkish investors say the big question is: how bad will the economic slowdown be? With benchmark interest rates at 50% and the country still suffering from inflation running at one of the highest rates in the world, companies are seeing the impact on their bottom line. Ata Investment, an Istanbul-based wealth manager, said it’s anticipating the Turkish companies it follows to report a 28% drop in net income this year.
“The outlook for Turkish stocks is still rather uncertain,” said Burak Cetinceker, a fund manager at Strateji Portfoy. “It’s not clear yet how much of the negative impact is priced in.”
Let me assure you, it is all priced in. Turkish stocks are trading at a 60% discount to EM main index, and at a P/E ratio significantly lower vis-a-vis their long term average.
Retailers will continue to exit the market because TL deposit rates will remain lucrative vs USD and expected equity returns for the rest of the year, but foreign funds are already returning to the hunting ground with a small net purchase in precious’s week data, after selling $2.9 billion in the three months through Aug. 16, according to data from the central bank.
Of course, it is foolish to argue that any EM stock market can withstand the huge tsunami to be created if stronger than expected US data, such as Thursday’s GDP print, but Borsa Istanbul’s huge discount does act as a bulwark against further downsides.
But is there an upside either for the currency or the equities? Yes, several, though none with strong probabilities attached to them. First Mehmet Simsek is not going anywhere. Erdogan remains committed to him, though whether he will approve Simsek’s request of further budget cuts and tax raises in September remains to be seen. Simsek retaining his post will act as an hedge against further downsides. Erdogan doing the unexpectable and signing under further fiscal retrenchment will trigger a huge rally, which may easily propel the main index to its previous high, producing an approximately 20% USD gain in a couple of weeks.
Carry trade flows have no reason to abandon Turkey, because there is not enough evidence Central Bank is ready or willing to cut rates any time soon. As the linked PATurkey article states: “In August 2024, 12-month-ahead annual inflation expectations decreased by 1.3 points to 28.7 percent for market participants and by 1.2 points to 53.8 percent for real sector, while increased by 1.1 points to 73.1 percent for households”, in surveys conducted by CB.
Central Bank governors Fatih Karahan and his deputy Cevdet Akcay had stated in numerous interviews that the household and real sector inflation expectations data will be considered prominently in judging the appropriateness of looser monetary policy. Clearly, with both measures hovering at or above the 50% policy rate (62% in compounded annualized terms), monetary policy is relatively loose, removing rate cuts from the picture soon.
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