Lira soars after CBRT rate hike, Asia FX attempts to benefit

The brave move from the Central Bank of the Republic of Turkey (CBRT) to raise interest rates much higher than market expectations just hours after President Recep Tayyip Erdogan again made public comments against high interest rate policy, appears to be supporting improved risk appetite at the end of the week.

A number of emerging market (EM) currencies in Europe initially gained following the central bank decision in Turkey, including the South African Rand and Russian Rouble, and this rally is attempting to filter through into Asia FX. The Malaysian Ringgit, Thai Baht, Indian Rupee and South Korean Won are just a few Asian currencies to be advancing higher against the U.S. Dollar on improved risk appetite.

Away from the decisive move of the Turkish central bank to increase interest rates in an effort to defend a currency that has been watched across the world for the past month, the prospects for further trade talks between the United States and China along with a softer Dollar on reduced trade tensions and weaker than expected U.S. inflation data are all supporting risk appetite.

It is expected that the Lira will continue to take centre stage when it comes to investor attention at the market environment at the end of the week. Investors are generally very relieved that the Central Bank was able to act in defiance to the outspoken tone towards high interest rate policy from Erdogan just hours before the decision on Thursday, which concluded with the CBRT raising its key interest rate sharply from 17.25% to 24%. We did initially think it would require a move of 500 basis points to positively impact the Turkish Lira.

What will be interesting to watch from this point is whether the Turkish president makes any comment in regards to the move from the central bank. If the CBRT is able to regain market confidence that they remain independent from the Turkish government, it can by all accounts support a group of different high-yielding currencies over the medium term. The South African Rand falls into this basket, and it will be interesting to monitor if the move has a positive knock-on impact on either the Indonesian Rupiah or Indian Rupee. Both latter currencies had fallen to 20-year lows (Rupiah) and repeated all-time lows (Rupee) since the Turkish Lira crisis attracted world attention last month.

While the move from the CBRT to adopt a higher interest rate policy is encouraging for market confidence, this doesn’t eliminate the looming headwinds that are, or have already approached the Turkish economy. Some skepticism might also remain that a one-time move from the CBRT is enough to convince investors that the central bank is independent from the government.

Market players will keep a close eye on how President Erdogan reacts to the interest rate hike. Any attempts on his side to influence monetary policy is a threat to investor sentiment.

The Bank of England (BoE) voted unanimously to keep interest rates unchanged at 0.75% as largely expected. There was a negative undertone from the BoE that policymakers saw “greater Brexit uncertainty since August” with rate hikes “gradual and limited” over the coming years. Expect for the Pound itself to remain highly sensitive to any Brexit reports over the upcoming weeks.

The European Central Bank kept policy unchanged and confirmed it would halve its monthly bond purchases to 15 bln euros from October. The ECB also downgraded its economic growth projections and issued concerns over protectionism and emerging market volatility, but the Euro overall enjoyed a round of unwinding on USD positions to jump higher for the day.

The surprise decline in the US inflation report and weakening expectations for an interest rate increase from the Federal Reserve in December encouraged pain for the Greenback. If the end-of-week retail sales report from the United States also disappoints, this should provide an opportunity for a wide range of global currencies to extend momentum against the USD.

The Dollar Index is at risk to sinking below 94 over the medium term if sellers are able to secure a weekly close below 94.50. This would of course be welcome news for EM currencies across the world, especially the likes of the Indian Rupee and Indonesian Rupiah in Asia when you consider the duress these currencies have witnessed in recent weeks.