TRY is in the process of imploding, down c10% on the day at the time of writing to c12.65/US$, after having falling as much as c15% (to c13.45/US$) in midday UK trading (versus a c1.1% drop for the JP Morgan EM Currency Index). That takes the decline to c43% ytd, c26% in November (and it’s not even US Thanksgiving) and c14% on the week (and it’s only Tuesday).
The trigger appears to be comments by President Erdogan in which he defended his pursuit of lower interest rates, saying that a “competitive” lira will support investments and jobs, as well as supportive comments by government ally and MHP leader Devlet Bahceli that central bank independence should be debated and that “Turkey should be free of interest rate burden”.
TRY's implosion is striking in that the above comments can hardly be considered 'news', and are simply a reiteration of Erdogan’s well-worn anti-interest rhetoric. However, markets seem to have taken them as a signal that further monetary easing is in store.
We would have thought that comments like this from Erdogan would have already been baked into the currency, so a move of this magnitude is a bit perplexing and looks to us like an overreaction. Once the dust settles, it will be time to review our Sell recommendation on TRY and local debt, although it may be unwise to try and catch the proverbial falling knife.
The question now becomes whether Erdogan will continue to double down on his irresponsible obsession with low interest rates at the expense of the lira and, potentially, his electoral prospects in 2023 once the currency collapse passes through to inflation and, eventually (and ironically), to higher interest rates to stamp down on the inflationary spiral.
The last two hawkish leadership changes and policy shifts at the central bank were triggered by currency moves of a lesser magnitude in July 2018 and November 2020, so it is possible that today’s spectacular collapse will prompt Erdogan to change course. But that assumes that Erdogan is a rational economic actor, which is a big assumption to make, and we are beyond trying to predict his behavior.
At some point, the massive REER depreciation will begin to make TRY look attractive again, with the IMF saying the currency was c20% undervalued in 2020 and an improved current account/further REER depreciation since. However, further depreciation is unlikely to yield more competitiveness gains, and will only cause macro instability, high inflation and an erosion of purchasing power.
For now, we retain our Sell recommendation on TRY and local debt and our Hold recommendation on Turkish credit. It is possible that TRY will rebound through the end of the week after today’s collapse (which looks to us like an overreaction), but, with thin holiday trading and historically high volatility (reaching the highest level since mid-2018), it could also continue to move weaker.
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