(Bloomberg) — The Turkish lira plunged as much as 15% following President Recep Tayyip Erdogan’s shock decision to replace the country’s central-bank chief.
It was quoted at 8.1012 at 10:53 a.m. Sydney time after earlier weakening to 8.4707 per dollar. That erased more than four months of gains since the now ex-governor Naci Agbal was appointed in November and putting the lira within a few percentage points of a record low reached earlier that month.
Erdogan’s decision to fire Agbal, who had sought to restore the central bank’s credibility, is a blow to investor confidence and raises concern the country will once again embark on a path of rock-bottom rates. The initial backlash exceeded some analysts’ estimates, and marks a swift reversal of investor enthusiasm toward Turkish markets. That now seemingly sated appetite had helped make the lira the best carry-trade currency this year, with money managers cheering Agbal’s move to raise interest rates and efforts to bring inflation under control.
“Bulls’ optimism was based on CBRT being allowed to keep rates high for some time, and after last Thursday that looked very promising,” said Henrik Gullberg of Coex Partners Ltd., who previously saw the lira appreciating beyond 6.90 per dollar. “That’s ruined now; it will be hard to find lira bulls,” he said, adding that the currency could now head back to levels when Agbal was appointed.
New Pledge
Agbal’s replacement, Sahap Kavcioglu, pledged on Sunday to use monetary-policy tools effectively to deliver permanent price stability. He also said the bank’s rate-setting meetings will take place according to schedule.
A rush to sell the currency in thin liquidity as trading got underway in Asia overwhelmed support for the lira from state banks, according to an FX trader familiar with the transactions, who asked not to be identified because the person isn’t authorized to speak publicly.
“I expect massive state bank intervention in the short term to hold a line on the lira,” said Timothy Ash, a strategist at BlueBay Asset Management in London, adding that he’s not yet sure where the line will be drawn. “The new governor will be dependent on utilizing the reserve bounty that the former governor left him to smooth his entry into the job.”
Erdogan Ousts Central-Bank Head, Installs Interest-Rate Ally
Any weakness in the lira could add to inflationary pressures building in the economy and erode Turkey’s real rate, currently the highest in emerging markets after Egypt’s.
“The shock firing of central bank chief Agbal over the weekend may deal a fatal blow to investor confidence in Turkey,” Win Thin, head of global currency strategy at Brown Brothers Harriman & Co., wrote in a note. “At this point, it doesn’t matter who Agbal’s replacement is or what they say, as it’s clear that Erdogan is running the show. USD/TRY is likely to test the all-time high near 8.58.”
The lira had strengthened under Agbal’s watch as he ended a complicated funding structure and pledged to ensure price stability. His abrupt removal comes on the heels of a 200 basis-point interest-rate hike on Thursday, double what was expected in a Bloomberg survey, amid accelerating inflation.
What Bloomberg Economics Says
“The hit to the central bank’s credibility and independence can’t be overstated. Erdogan has battered the institution with interventions that have repeatedly backfired. Financial markets were willing to give Agbal a chance, his successor will find it hard to build that trust again.”
–Ziad Daoud, chief emerging markets economist. For full REACT, click here
While Turkey’s high nominal rates are a lure for yield hunters, its mercurial inflation and the perception that central-bank policy has been too loose for the prevailing economic conditions has made the lira one of the most volatile currencies in the world.
“We must conclude, for now, that Kavcioglu will be mandated with reducing and keeping rates as low as possible,” said Cristian Maggio, head of emerging markets at TD Securities in London. “If this hypothesis proves true, not only will we see a looser policy setting in Turkey in the coming months, but we will also likely experience a return to managing policy through unorthodox measures.”
Last year, Turkish banks spent more than $100 billion of the nation’s foreign reserves to support the sinking currency, according to a report by Goldman Sachs Group Inc. That prompted calls by Turkish opposition for a judicial probe into the nation’s official reserves.
In comparison, foreign investors purchased a net $4.7 billion worth of Turkish stocks and bonds in the months following Agbal’s appointment. Overseas inflows to Turkey through swaps were about $14 billion during that period, Istanbul-based economist Haluk Burumcekci said.
Among those who may find themselves on the wrong side of the trade are Japanese retail investors. Long positions by individuals in lira-yen stood at 263,585 contracts as of Friday, according to Tokyo Financial Exchange data. They’ve climbed about 9% since the start of the year.
“We will never know how successful Agbal’s approach could have been, but initial signs were positive,” said Emre Akcakmak, a portfolio adviser at East Capital in Dubai, who anticipated challenges to intensify in the near future and a reversal on some of the recent and large hot money inflows in the face of the unexpected decision.
“Even when the market stabilizes after a while, investors will have little tolerance, if any, in case the new governor prematurely cuts the rates again,” Akcakmak said.
(Updates with quote from Brown Brothers and latest prices)
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