The Turkish lira collapse, foreign debt and banking risk

Top Stories

The Turkish lira collapse, foreign debt and banking risk
There is zero prospect that the Turkish central bank will achieve its five per cent inflation target in 2015 and this means yields on the 10-year lira bonds will remain well above 10 per cent.

The lira has been in virtual free-fall since July 2014, falling from 2.10 to 2.82 now against the US dollar.

By Matein Khalid/Currencies

  • Follow us on
  • google-news
  • whatsapp
  • telegram

Published: Mon 17 Aug 2015, 12:00 AM

Last updated: Mon 17 Aug 2015, 9:15 AM

Geopolitics is now another source of risk for the Turkish lira, government debt and Istanbul equities. The Turkish air force is bombing Daesh in Syria and the secessionist Kurdish PKK party in northern Iraq. Suicide bombings have killed Turkish citizens in eastern Anatolian cities on the Syrian border.
Ankara has given the US a green light to launch military airstrikes from the Incerlik air base, once a base for Cold War surveillance flights over the Soviet Union. President Erdogan did not win an absolute parliamentary democracy in the June elections, has not forged a new grand coalition and cannot ally with Kurdish nationalist parties now that the ceasefire with the PKK has ended. A new snap election adds to political risk.
The lira has been in virtual free-fall since July 2014, falling from 2.10 to 2.82 now against the US dollar even before the Federal Reserve has made its first interest rate move. Istanbul shares, dominated by banks and conglomerates, fell 18 per cent in 2015, double the MSCI emerging markets indices.
Economic growth has plummeted to three per cent. Inflation, modern Turkey's financial Achilles heel, is eight per cent and the Ankara central bank is often impotent to tighten monetary policy due to political interference from Erdogan. The free-fall in the lira makes chronic stagflation the new "Turkish malaise". Even though Brent crude has fallen from $115 in June 2014 to below $48 now, the Turkish current account deficit is still a staggering $50 billion, making it vulnerable to an exodus of offshore hot money when US dollar rates rise.
There is zero prospect that the Turkish central bank will achieve its five per cent inflation target in 2015 and this means yields on the 10-year lira bonds will remain well above 10 per cent. It is still far too dangerous to invest in Turkish bonds now, even though Turkish banks have fallen 35 per cent since I outlined the bearish case to short them in late 2014. This year will go down in Turkish history as an "annus horribilis" on the Bosphorus. The Yellen Fed will only increase the risk premium in Turkish banking.
The collapse of the lira since the 2008 credit crisis is a disaster for Turkish banks and conglomerates, since $180 billion in unhedged corporate debt is denominated in foreign exchange. Turkey's unemployment rate is far too high at 11.3 per cent and recession in 2016 could trigger social unrest similar to Istanbul's Gezi Park protests in the past.
Turkey faces its worst currency and banking crisis since the failure of Lehman Brothers, HSBC and Citigroup's exit is a vote of no confidence in Turkish banking (Wall Street and the City of London CEOs cringe at Erdogan's "international interest rate lobby" tirades), the risk of a sovereign debt downgrade and external debt crisis is all too real.
The lira can well fall below three to the US dollar in the next interest rate cycle. Sadly, this means Gulf and Arab investors with billions of dollars in Turkish financial exposure face crippling losses as economic, geopolitical, sovereign, banking, inflation and funding risk will only escalate this autumn.
The lira has fallen 35 per cent against the US dollar in the last two years. As Turkish inflation soars, the lira could fall another 20 per cent in the next 12 months.
This summer's petrocurrency short (other than the loonie) was the Russian rouble, which fell against the US dollar for eight successive weeks as Brent/West Texas crude oil prices were in free-fall. While Russia is the world's largest oil and gas exporter and the Kremlin is still the target of US/European sanctions after Putin's Duma annexed the Crimea, a diplomatic thaw with Washington and Berlin over Ukraine could enable the Russia to end its blackball in the Eurobond new issue market.
The rouble has fallen 46 per cent since Putin's Spetsnaz commandos occupied Crimea and now trades below 70 against the US dollar. Rouble volatility is 22 per cent and Russian energy/mine exporters are reluctant to switch into roubles as long as King Dollar is on a rampage against petrocurrencies.
However, the Kremlin will force the exporters to sell their US dollars for roubles. When that happens, the Russian rouble will rise to 58-60 against the US dollar. I have been bearish the rouble and Russian equities ever since Putin's Crimean Anchluss in early 2014. At 70, my strategy call is to go long roubles against the US dollar and Swiss francs.


More news from