Turkish equity markets moved higher last week as President-elect Recep Tayyip Erdoğan announced the AK Party would name Ahmet Davutoğlu its new party-head and prime minister. Germany and the broader eurozone continue to face economic turmoil with deflation becoming a reality in many bloc countries. It appears now that quantitative easing is inevitable for the European Central Bank. The Islamic State of Iraq and al-Sham continues to trouble the Kurdistan Regional Government and greater Iraq just as the United States has begun to take measures to slow and ultimately stop their advance.
Davutoğlu's selection, which I had predicted two months ago, appears to have pleased financial markets as his record is one of improving trade ties with previously overlooked partners, something financial markets always applaud. The BIST-100 index came off of its post-election lows to rally in the last week, up nearly three thousand points by midday Monday, trading at 79,236 points from a low of 76,692 the Friday following the presidential election.
Turkish debt markets were also markedly better with the benchmark two-year government issue's yield trading at 9.03 percent while the long-end 10-year bond traded up as well with a yield of 9.23 percent. Both bonds traded higher as their yields fell from their previous levels last week of 9.19 percwent and 9.31 percent respectively. It appears that the naming of the former foreign minister to the top political post in the country has left only the new cabinet an unknown in the year before the upcoming Parliamentary elections to be held next year. As Prime Minister Davutoğlu submits his cabinet to incoming President Erdoğan for approval, financial markets will have put to bed any outstanding concerns over leadership of the country for the near-future.
The Turkish Credit-Default Swap market, or CDS market, was stable in the past week. Credit default swaps are effectively insurance against political and economic instability for debt. CDSs traded at 1.83 percent down only 1 basis point from last week.
The U.S. dollar rallied against the euro and against global currencies in general, including the Turkish lira, which traded at 2.18 Turkish liras to the dollar, off 0.01 Turkish liras in the past week. The lira was remarkably resilient despite the various armed conflicts to Turkey's east, north, and south, as wars rage in Syria, Iraq, and the Ukraine. I don't expect any major currency shifts unless the Federal Reserve begins tightening, in which case the euro and the dollar will diverge and the lira will be stronger against its major trading partner, the EU's euro, while being weaker against the U.S. dollar, by which most commodities are globally priced.
The euro continued to fall on Monday as the latest German business confidence index released by the Ilfo Institute pointed to four straight months of declining confidence in the business climate, perhaps a leading indicator of trouble ahead.
The United States, despite Europe's economic woes, appears to be enjoying an economic revival, albeit one with a soft labor market. Both the ECB Chairman Mario Draghi and Fed Chairperson Janet Yellen are on the cusp of shifting gears as the ECB begins to ease, the Fed appears to begin a tightening regimen beginning in the late fall of this year. Should such an event occur, global emerging market debt and currency markets will be adversely effected. Turkey will also not be immune from these events and the lira may fall against the dollar should this actually happen. Despite a low unemployment rate, the U.S. is experiencing a very low participation rate in the labor market which may be the only saving grace of policy doves which favor long-term near-zero interest rates until participation in labor markets improves.
An interesting debate has sprung-up among policy experts regarding a historical event. Some historians attribute the collapse of the Soviet Union to low crude oil prices. The USSR had banked on high crude prices to finance the union but both ultimately collapsed. With current crude oil prices down over 10 percent in recent months, some are predicting a crash in crude oil prices which would squeeze Russia into coming back to the negotiating table in regards to its influence in the Ukraine. Such a move, although disastrous for Russia, would be great for energy dependent countries such as Turkey.
Ironically, Turkey is actually benefiting from the tit-for-tat sanctions game the EU, U.S., and the Russians are playing, as the Russians have turned to neighboring Turkey to help make up for supply shortfalls of agricultural products once imported from the United States and the European Union. It will be interesting to see how this plays out for all parties, but Turkey appears to be hedged either way.
This week markets digested manufacturing confidence numbers and capacity utilization, both of which came in slightly below estimates and have turned to the central bank of Turkey's Monetary Policy Committee which will announce interest rate decisions on Wednesday of this week. Later in the week, consumer confidence and trade deficit numbers will also be announced. Look for markets to trade sideways, barring any surprises and until a new cabinet is put in place. Markets appear to have already priced in risks associated with new faces in the cabinet and the strength in the CDS markets especially point to confidence in President-elect Erdoğan and Prime Minister-designate Davutoğlu at supporting an already healthy Turkish economic environment.
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