May 18 2018

Investors may throw in the towel on Turkey – strategist

Many investors may give up on Turkey unless the central bank raises interest rates to halt a slump in the lira, said Tim Ash, senior emerging market strategist at Blue Bay Asset Management.

The central bank needs to raise interest rates by at least 150-200 basis points to stop the possible exodus, London-based Ash said on Friday.

“If the central bank disappoints then the danger is that many investors just throw in the towel, assuming that it is impossible to invest in Turkey given Erdoğan’s so unorthodox views on monetary policy and likely his increasing dominance,” he said.

Turkey’s lira has slumped to record lows against the dollar and euro after the central bank failed to raise interest rates following a meeting with President Recep Tayyip Erdoğan last week. Erdoğan told investors during a visit to the U.K. on Monday that he may cut interest rates after presidential elections on June 24 and tighten his grip on monetary policy, intensifying concerns.

Another meeting on Wednesday between Erdoğan and Central Bank Governor Murat Çetinkaya hasn’t been followed up by rate increases either. The lira traded 0.4 percent lower at 4.48 per dollar on Friday, close to the record low of 4.5 per dollar reached just before the latest meeting.

Ash, who listened to Erdoğan reiterate how higher rates are inflationary along with other analysts and investors in London, said Turkey was now approaching a critical decision point.

Erdoğan’s rhetoric in London, which runs against conventional economic theory, “really left serious concerns”, contrasting with some readouts from the press in Turkey that said the president had great sessions with investors, Ash said.

“So it has left the question as to why Erdoğan would bother meeting institutional investors in London and trying to explain views that are so out of kilter with how the market and most institutional investors who invest in Turkey think,” he said.

“There was no way that this would go down well. And hence this was a really high-risk strategy.”  

Yields on Turkey’s benchmark 10-year lira bonds have also hit record highs. The debt traded at 14.5 percent on Friday. That compared with central bank interest rates of 13.5 percent and inflation of 10.9 percent. Recent treasury debt auctions have seen low demand.

Losses for the lira in the past few days are likely to impact inflation by another 1.5-2 percentage points, Ash said. Furthermore, inflation is not the only problem in Turkey – Turkish corporates owe more than $220 billion in foreign debt and Turkey needs portfolio inflows from abroad to finance its widening current account deficit.

“To keep these flows invested, and indeed encourage more inflows just to stand still, Turkey needs to offer significant real interest carry to make up for the obvious risks,” Ash said in e-mailed comments. “Failure therein will just encourage capital flight, and more pressure on the lira, making the fight against inflation that much more difficult.”

Ash said he wasn’t sure if Erdoğan and his more unconventional economic advisers “have any rational defence in terms of their unorthodox interest rate views.”