After Turkey's stock market tumbles, investors brace for another rate cut as inflation soars

After Turkey’s stock market tumbles, investors brace for another rate cut as inflation soars

An electronic board displays information about exchange rates at a currency exchange office in Istanbul, Turkey, Monday, August 29, 2022.

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Investors brace for another potential interest rate cut – or simply a hold at the current rate – as Turkey refuses to follow economic orthodoxy in tackling its soaring inflation, now at more than 80%.

Or, investors who can still withstand the volatility of the Turkish market.

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The Eurasian hub of 84 million people – to which many major banks in Europe and the Middle East still have significant exposure and which is highly exposed to geopolitical tensions – has seen significant market turbulence in recent years. days, in addition to the dramatic falls in currencies in recent years.

This week has seen a major rout in Turkey’s stock market, the Borsa Istanbul, with Turkish banking stocks plunging 35% in the week ending last Monday, after recording a stratospheric 150% rally between mid-July and mid-September. This prompted regulators and brokers to hold an emergency meeting, although they ultimately decided not to intervene in the market.

The cause of the volatility? First, Turkey’s high inflation had prompted investors to invest their money in stocks to protect the value of their assets. But it was fear of higher inflation in the United States and subsequent rate hikes by the Federal Reserve that likely triggered the sharp downward turn, analysts said.

The decline wiped out more than $12.1 billion in market value of publicly traded banks nationwide.

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Indeed, higher interest rates set by the United States and a resulting stronger dollar are creating problems for emerging markets like Turkey which import their energy supplies in dollars and have large debts denominated in dollars. , and therefore will have to pay more for them.

The market rout caused margin calls, which is when brokerages ask investors to add money to their positions to cushion losses on stocks they bought on ” margin” or borrowed money. This led to a further spiral in selling, until Turkey’s main clearing house, Takasbank, announced on Tuesday a relaxation of requirements for collateral payments on margin trading.

Banking stocks and the Borsa as a whole have rebounded slightly on the news, with the stock market up 2.43% since the close of Monday at 2:00 p.m. in Istanbul. La Borsa Istanbul is still up 73.86% since the beginning of the year.

Rise in inflation: what next for the central bank?

But analysts say the stock market’s positive performance is not in line with Turkey’s economic reality, as they anticipate the Turkish central bank’s decision on interest rates on Thursday.

Faced with inflation just over 80%, Turkey shocked markets in August with a 100 basis point interest rate cut to 13%, sticking to the firm belief of President Recep Tayyip Erdogan that interest rates will only increase inflation, contrary to widely held economic principles. All of this is taking place at a time when much of the world is tightening monetary policy to combat soaring inflation.

Observers in the country are predicting another drop, or at most a hold, which likely means more trouble for the Turkish lira and for the cost of living for Turks.

Economists at London-based Capital Economics predict a rate cut of 100 basis points.

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“It is clear that the Turkish central bank is under political pressure to comply with Erdogan’s looser monetary policy, and it is clear that Erdogan is more focused on growth in Turkey, and not so much focused on fighting against inflation,” Liam Peach, senior emerging markets economist at Capital Economics, told CNBC.

“While the Turkish central bank is under such pressure, we believe that it will continue with this cycle of lower interest rates for perhaps one or two more months…the rate cut window is small.”

Timothy Ash, emerging markets strategist at BlueBay Asset Management, also predicts a decline of 100 basis points. Erdogan will not need justification for this, Ash said, citing future elections as the reason for the move.

Analysts at investment bank MUFG, meanwhile, predict a hold at the current rate of 13%.

Economists predict continued high inflation and a further decline in the lira, which has already fallen 27% against the dollar since the start of the year, and 53% last year.

Erdogan, meanwhile, remains optimistic, predicting that inflation will fall by the end of the year. “Inflation is not an insurmountable economic threat. I’m an economist,” the president said in an interview on Tuesday. Erdogan is not an economist by training.

Regarding the effect of Erdogan’s decisions on the Turkish stock market, Ash said: “The risk of these unorthodox monetary policies is that they create misallocation of resources, bubbles, which eventually burst, leading to large risks to macro-financial stability”.

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