Despite President Erdogan’s apparent desire to embrace orthodox economics – after years in which his insistence on ultra-loose monetary policy even at a time of rapidly rising prices has stoked high levels of inflation – Turkey continues to face several economic challenges. Inflation reached 58.8% in August. The Turkish Lira continues to trade at or near record lows against the US Dollar. While the appointment of a credible Finance Minister and Central Bank Governor has raised hopes that change could be on its way, the immediate outlook for the Turkish economy looks bleak.
In the midst of this turbulence, however, the Istanbul Stock Exchange has emerged as a safe haven for both local and foreign investors. The Borsa Istanbul is up almost 45% so far this year in both local currency and dollar terms and was one of the best performers last month amongst peers, a month in which emerging markets slumped by an average of 6%.
Locals are turning to equities to hedge themselves against rapidly rising prices and a depreciating Lira, both of which are eating away at the real terms value of their cash assets. Stocks are usually attractive for investors looking to hedge against inflation because as long as companies can pass on higher costs to consumers, as is usually the case, stocks values incorporate the effect of higher prices.
Similar trends have emerged in other emerging markets which are suffering from similar economic issues. In Egypt, inflation is currently running at 36.5% and the Egyptian Pound has dropped to record lows against the dollar. The Cairo Stock Exchange has hit record highs as local investors flock to preserve the value of their assets. In Nigeria, too, the naira has plummeted and inflation continues to soar. The Nigerian All Share Index has responded by making gains of almost 30% in local currency terms since the start of the year. Argentina’s Merval stock index strengthened by almost 50% in August alone. In all these countries, equities seem to be serving as a safe haven against rising prices and currency depreciation.
While the strong performance of the Borsa Istanbul can partly be put down to local investors’ malaise at domestic economic troubles, there may also be more positive reasons for the exchange’s rise. Foreign investors and international institutions are taking a greater interest in Turkish markets as risk conditions improve and Ankara commits to policy normalisation.
The spread of five year credit default swaps, the best gauge of risk in Turkish markets, has fallen almost 7% in the last month alone to 375.56, which implies a 6.28% probability of default. The global credit ratings agency Moody’s has suggested that Turkey could be on course for a ratings upgrade given the progress it has made on addressing its economic woes and bringing its policies in line with international norms.
Turkish equities could therefore be seen as discounted, with international investors keen to purchase them now before Turkey’s recovery gains speed and more investors come into the market. In May, valuations on the Borsa were only at roughly 5 times earnings, but they have since rallied to 10 times projected earnings. Relatively few international investors have any exposure to Turkey at all because the country accounts for only 0.5% of the MSCI Emerging Market Index. The Borsa’s rally suggests that this could change but for now, it seems there are strong buying opportunities for investors with an interest in Turkey and the Middle East.
Turkey has taken several practical steps to boost its stock exchange. Earlier in the year, the country’s sovereign wealth fund, TVF, announced it would channel at least $1 billion into the Borsa Istanbul via an array of ETFs in a bid to support Turkey’s equities market. It seems the need for public intervention is over, however, as the Borsa continues to make strong gains in its own right. While the history of President Erdogan’s time in government shows he can change course in an instant, the current trajectory is certainly positive for Turkish equity markets.
Author: Harry Clynch
