DCM bankers and investors are clear that for all Turkey’s problems of inflation (at around 20%), a weak lira and high unemployment, all that is needed for calm to return to the country’s capital markets is for Erdoğan to be the more predictable, rational leader of pre-2018.
Three main events drove the wild ride in Turkish bonds over the past week. Erdoğan only has to say the right thing to fix all of them.
The first event was the announcement that the result of the Istanbul mayoral elections in March – which his party did not win — would be annulled. The AKP (Justice and Development Party) alleged voting irregularities and “terrorist interference” in Istanbul, the electoral commission agreed (to no one’s surprise) and set a rerun of the poll for June 23. Asset prices slumped and the lira took a hit as Erdoğan chose to take one more step towards autocracy.
The second was the disappointing performance of finance minister (and Erdoğan’s son-in-law) Berat Albayrak at the IMF. Onlookers hoped for a detailed explanation of the central bank’s use of swaps to shore up sagging foreign currency reserves to support the lira. What they got was an assertion that this was simply within the bounds of normal central bank behaviour. It utterly failed to alleviate investors’ concerns.
The third event was Turkey’s purchase of the S400 missile system from Russia. The US has warned Turkey privately and publicly not to buy it, saying that to do so will have a serious and lasting adverse impact on bilateral relations, widely interpreted to mean sanctions.
The situation has echoes of last summer — Erdoğan messing with supposedly independent institutions and the US threatening sanctions.
Back then, Erdoğan was sticking his oar into monetary policy, saying he wanted to remove central bank independence, and following through, preventing a universally expected rate hike just ahead of an election. The sanctions arrived because of Turkey’s detention of US pastor Andrew Brunson rather than the arrival of a new missile system purchase, but it still feels like the same old, same old.
Oddly enough, if it were just like last year, that should be some comfort for investors. Last year’s problems were swiftly and easily solved, as far as the capital markets are concerned, by an about-face from Erdoğan, which triggered a 200bp rally in Turkish bonds in a month. There is hope that the same will happen again. As such, the sell-off this time around has not been as bad.
So one must assume that the right declarations from Ankara will send Turkish assets soaring again (assuming Erdoğan kept the receipt for the rockets too). But it is worth pointing out that any rally will only be a partial corrective.
Every time a major sell-off happens, a few more buyers decide that Turkey is too hot to handle while Erdoğan is at the wheel. Turkey has already lost its investment grade ratings and the investment grade investor base that came with it. It is now at risk of angering even its emerging markets investor base — a group that is more used to volatility but not entirely numb to fear.
For the good of Turkey’s capital markets borrowers — and the sovereign’s own finances — Erdoğan needs to get on message and stay there.