Monday, 16 July 2018

Turkey 2007: Future looking rosy

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Since its resurgence in 2005, the Turkish lira bond market has occupied a dominant position within the niche currency arena. Levels of issuance continue to be encouraging, and liquidity is growing as more and more participants look to get involved. With no dark clouds on the horizon, this situation looks set to continue, as Philip Wright reports.

The Turkish lira’s appeal to bond investors remains undiminished. Offering among the highest nominal and real rates of return around (two-year interest rates are in the 18.25% region and inflation is running at 10%), its allure is simple to understand.

The risk/reward profile is therefore attractively skewed towards taking on the currency risk, as the amount the currency would have to fall to wipe out coupon payments in the case of a hiccup is reassuringly great, said David Smith, executive director, emerging markets trading at JPMorgan.

JPM is one of a number of houses committing renewed resources to the whole non-core currency sector. And the growing involvement by underwriting hopefuls is mirrored, and in no small respect inspired, by the strong interest from the buy side, as the Turkish lira makes up around 10% of indices in the sector.

“It is a case of not being able to afford not to be involved,” said Smith, pointing out that a lack of exposure at a time when the market was performing well would have a drag effect on the performance of any portfolio.

And the market is performing strongly, with 2007 volumes set to outstrip the previous year and maybe even rival 2005, the year that currency rebalancing saw an influx of new money into lira-denominated bonds. That initial impetus saw some €4.5bn-equivalent of paper priced, though issuance dried up somewhat in the second half of the year after a lightning start.

This was followed by around €3.5bn in 2006 as rates dropped to around the mid 12% area, having been a good 2.5% higher in the prior year. And 2007 is also significant, the first quarter already having thrown up some €2bn-equivalent of new bonds. Seeing rates back up around 18% has done nothing to detract from the currency's appeal. (See the article on the politico-economic outlook in this report.)

Although the euro convergence story waxes and wanes, there is little else to rival the TL in this arena. Many of the other EU hopeful countries’ interest rates tend more towards eurozone than emerging market levels, allowing the TL to continue to occupy the top spot. As Moti Jungreis, managing director and global head of currency trading and fixed income at Turkish lira champions TD Securities said: “The new Turkish lira is . . . the Turkish lira.”

As by far the largest niche market currency around, the TL is increasingly used as a single-market bet, a proxy for the entire sector. That explains the number of new players – both issuers and underwriters – gravitating towards a market that is growing in maturity.

The result is a virtuous circle, where bid-offer quotes on swaps are now half the 50bp-odd they were in 2005 and the maturities available are double the length. The yield curve has extended out to 10 years with 15 years firmly in the market's sights, and the additional participants have been beneficial for liquidity, with the volumes now available far greater than at any time in the past.

A case in point was January’s ABN AMRO/Banca Profilo-led long two-year deal for the EIB, which, at TL1bn, easily surpassed anything witnessed previously. Although the payment date was timed to coincide with an EIB redemption of similar size, that issue had only reached those heady heights by virtue of numerous taps.

As is invariably the case in most markets, investor sentiment is the over-riding factor in determining performance. Such is the current state of affairs, that any negative news would likely be perceived as a buying opportunity, the market continuing to demonstrate great resilience.

“That is unless there is a series of shocks,” said JPMorgan’s Smith. “Then all bets are off.”

Add to this the fact that the product suite available will likely expand with the advent of covered bonds as domestic banks look to offset their mortgage liabilities, and the future looks rosy. (But see the article in this report on the new Mortgage Law.)

The situation is summed up by Michael Gower, director of treasury at Rabobank, itself no stranger to the currency, as follows: “It’s the proxy, it offers good value, people can settle it and they’re used to it."

And unless there is a major Turkey-specific shock, the TL looks set to maintain its dominant position in this particular market niche for some time.

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