Turkish lira in line of fire as Japan flash-crash fears return

Turkey’s embattled lira may find itself in the eye of a sell-off storm in Japan in a repeat of a so-called “flash-crash” a year ago.

Japan is starting a six-day New Year break on Tuesday until Jan. 5 and the country’s Financial Futures Association has warned that a liquidity vacuum may spark market instability. Japan’s retail investors are most bullish on the lira, but a decline in the currency of 11 percent this year increases the likelihood of forced liquidation of margin positions should the losses widen, Bloomberg reported.

“Any market shock could spur stop-loss selling on retail investors’ bloated lira-yen positions, which may see a broader surge in the yen,” said Takuya Kanda, general manager at Gaitame.com Research Institute in Tokyo, according to the news wire.

Many investors have exited the market for the lira after Turkey’s central bank teamed up with state-run lenders to prop it up following a currency crisis in August 2018. Turkish banks also withdrew liquidity from the offshore swaps market, where some traders regularly placed bets on the lira’s decline, causing interest rates to surge into the thousands and investors to flee.

While the Turkish lira is now seen as a managed currency by many traders, sudden sales of the currency in early Asian trading could catch Turkish authorities off guard and spark wider selling pressure. Turkey’s central bank has seen its net reserves of foreign currency dwindle during the currency crisis, meaning it is restricted on how much it can directly or indirectly intervene in the market to support the lira.

On Jan. 3, 2018, many lira positions held by Japanese retail investors got liquidated automatically, causing the “flash crash”. The fire sale was exacerbated by algorithmic programmes and the absence of Japanese banks during the public holiday.

The Financial Futures Association said in a statement in December that investors might not be able to respond to margin calls this time around either, risking another forced liquidation, Bloomberg reported.

The lira traded almost unchanged at 5.945 per dollar at 12:44 p.m. in Istanbul on Tuesday.

In early December, Turkish President Recep Tayyip Erdoğan called on Turks to sell their dollars for lira, in a repeat of the appeals he made at the height of the 2018 currency crisis. At the weekend, the central bank made it more expensive for banks to deposit their foreign currency unless they met prescribed goals for loan growth in a move partially designed to bolster the lira. The Turkish authorities have also increased taxes on retail investors' foreign currency deposits, while lowering them for lira deposits.