Back to May, without elections on the agenda
The most significant event (votes for president and MPs) for Turkish markets is over, after a packed campaigning period of fewer than three months. The headline of this article explains itself, but to exemplify precisely I may need a couple of words. Before May, the Turkish economy was gaining steam with incentives triggering consumer demand. Economists argued about whether the economy would continue to gain steam or lose its pace in the absence of any proper reforms. On top of that, the lira lost 20 percent of its value since the beginning of this year. With this background, the early election decision came out of nowhere. In short: The changing risk sentiment to emerging markets (uncertainties on trade wars, Trump-related issues, rate decisions from major central banks etc.) resulted in a massive sell-off for Turkish markets, the lira and a spike in local bond yields. Increasing inflation and the surging current account deficit also signalled a deterioration in the macroeconomic outlook and affected Turkish markets mainly. The economy is in danger of overheating, though those risks are ebbing. GDP growth is forecast by the IMF at 4.4 percent in 2018 and 4.0 percent in 2019 versus 7.4 percent in 2017. GDP rose 7.4 percent year on year in the first quarter and 7.3 percent in the fourth quarter, down from 11.3 percent rate in the third quarter but still quite strong. However, monthly data suggest the second quarter has slowed. The longer rates stay high, the higher the economic costs. So, this translates the downside risks to growth forecasts going forward.
Now, the U.S. dollar has entered a period of appreciation. Moody’s, a major credit ratings agency, identified Argentina and Turkey as “among the most vulnerable to the appreciation.” This is more of a confirmation though for investors, who have been selling the Argentine peso and the Turkish lira for weeks. The Institute of International Finance said that they have both fallen enough to price in all the negative factors which drove the falls in the first place. The peso “has essentially erased its overvaluation and is now close to fair value,” IIF said. And the Turkish lira is “borderline cheap, having more than offset current account widening.” In 2017, the lira fell 7 percent versus the dollar and was ahead of only the worst emerging markets performer, the Argentine peso (-14.5 percent). So far in 2018, the lira is -20 percent and again is ahead of only the worst performer, the Argentine peso (-31 percent YTD).