The dollar index has lost roughly 12% since a three-year peak in March. However, it is now more than 1.3% above the almost three-year low it hit last week. It rose 0.1% to 90.418 on Monday. The first fallout from rising U.S. Treasury yields has emerged, with a stronger dollar buffeting emerging-market currencies such as South Africa’s rand and the Brazilian real, commented Bloomberg on Friday. Monday, the new darling of carry traders, TL, too, took a hit, losing 1.39% by 1:30 pm. TL denominated bonds shrugged the US bond rout in thin trade, but Turkey’s Eurobonds were retreating across the maturity and rating spectrum.
The surge in the key global benchmark yield is raising the prospect of a pause in the dollar’s recent slide, which could undermine the rally in risk assets. Developing economies that are reliant on external financing may find their currencies especially vulnerable to any sustained strength in the greenback, adds Bloomberg. Turkey is one of the most vulnerable countries with $150 bn FX debt maturing in the next 12 months. Friday’s December cash budget revealed a TL35 bn decline in Treasury deposits, which would require higher borrowing in 1-2Q2021, as the epidemic takes its toll on employment.
According to Turkstat, the broad gauge of unemployment rose to 29% in October survey, with an estimated 10 million unemployed. The government will have to pay income support to the growing army of unemployed, as well as to small merchants and shopkeepers who are losing their enterprises due to epidemic-related closures and lockdowns.
It is difficult to imagine US 10 year bond yields rising above 1.25%, a reference value PA Turkey picked, which happens to be the Bloomberg survey end-2021 consensus. With yields remaining in negative territory in most of Euro-zone, interest rate arbitrage would keep US yields low. Yet, their lies the dilemma: Such arbitrage could strengthen the dollar, as overseas investors rush into US government bonds.
Turkish Treasury and corporates will be hurt more by a stronger dollar than higher yields. Currently, the Central Bank pursues a hands-off policy in terms of the exchange rate, but its hope is to bolster its FX reserves if and when the TL appreciates. Higher bond yields leading to sell-off in EM currencies or a stronger dollar could spoil these plans, bringing to the surface Turkey’s chronic external financing bottleneck.