Kill (Turkish) Bill- but make traders rich in the process


There is no special meaning to the title, it is just as it is:The Central Bank is killing the lira and making foreign currency (FX) traders rich in the process.

Author: Emre Deliveli

The Bank intervened in FX markets yesterday “because of unhealthy pricing conditions in exchange rates”, it said in a short statement this (Thursday) morning. As I explained in my post on Tuesday, most economists had not found Tuesday’s rate decision sufficient. They were at least hoping that the Bank would announce a lot of Additional Monetary Tightening (AMT) days. That did not materialize, as the Bank announced January 27 in addition to the already-announced January 30. And when the emerging market mood turned sour (many EM currencies depreciated today, although Turkey was easily in first place, followed by South Africa, who had its own set of domestic problems)…

….the lira suddenly jumped from 2.26 to 2.30 early morning and the Bank intervened- the first time since 2012, when it had sold nearly USD 3bn on December 30 2011 and the first week of 2012. While the Bank will reveal the exact figures in a couple of weeks, we will have a pretty good idea when the Bank’s balance sheet for today comes out in two days- but traders I talked to put the figure at USD 4bn, including the Bank’s second intervention late in the afternoon.

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That doesn’t mean that the Bank has not been selling FX. Quite the contrary- but it was doing it through regular actions. In fact, it has sold nearly USD 20bn since June:

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You may think, well if they have the money to burn, let them do so. Well, the problem is, they don’t. The Bank has about USD 35bn of net reserves as of now:

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There is continuous debate among Turkey economists on whether the gross or net reserves should be taken as an appropriate measure of reserve strength. Some argue that at least, the required reserves of commercial banks should be added, which would bring the total figure to USD 95bn according to my friend Ozlem Derici, who is Deniz Invest’s chief economist, and from whom I blatantly stole this graph:) But is not so simple. Here is Deutsche Bank’s chief economist Robert Burgess: “Should it run out of its own reserves, CBT could in theory also sell these assets and run a negative net FX position. We think this is a non-starter: it would be highly damaging for the CBT’s credibility, as the South African Reserve Bank discovered when it ran a negative net reserve position in the late 1990s and early 2000s.” In any case, traditional reserve strength measure are ringing alarm bells, even when you use gross reserves.

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… and the country looks really bad on these measures when compared to peers (compliments of Deutsche Bank):

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It is then of course no surprise that “the central bank just did not do enough”, as Standard Bank’s Tim Ash told the Financial Times. With these figures, it just couldn’t. As Ash noted,  “rule number one of direct currency intervention, when you intervene, do it in massive size and make sure it is effective.” In other words, you don’t go to a gunfight with a knife.

Of course, the markets know that the Bank is caryying a pocket knife, and so they will continue testing the Bank. And here’s how the Bank will make FX traders, or anyone with some wits, rich. You just sell FX when the Bank is intervening and then buy again. Sell on the AMT days of January 27 and 30 and buy afterwards. Completely fail-proof FX trading strategy.

I am sure Governor Erdem Basci and his deputies are aware of what is happening- will happen: So why are they doing it? I honestly have no clue. But the following, suggested by a friend, is the only thing that, albeit remotely, makes sense: “The only logic I can see is that they want to burn through reserves to demonstrate to the politicians that a meaningful rate hike is necessary. Otherwise, they seem like a bunch of naïve academics throwing good money after bad.”:):):)

Speaking of Basci, I just remembered that he was chosen “central banker of the year” by The Banker. His predecessor’s (Durmus Yilmaz), predecessor’s (Sureyya Serdengecti) predecessor Gazi Ercel had been awarded the same prestigious prize a few months before the 2001 crisis. Just sayin…

One final point: I wouldn’t want you to think the lira weakness is a one-day thing. You can get the numbers from Bloomberg, and my friend Ozlem did, and surprise surprise: Daily, weekly, monthly, year-to-date, yearly… The lira comes out as the most depreciated currency in all of them, so it is not just the political mess, as the government would have you believe, either: While global sentiment certainly played a role, especially given Turkey’s high-beta status because of its external vulnerabilities, you should not discount the impact of the ultra-low interest rates on the lira…


I was going to finish this note, but I just thought you may wonder what happened in the previous CBT interventions of 2011 and 2006. It is now past 2.30 (am, not the exchange rate, sorry I know it is a horrible joke) in Turkey, and I am too sleepy, but luckily Ozlem has done it, and so I will again blatantly steal from her:

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“In October 2011, when European crisis peaked and LTRO was announced, the CBT hiked the O/N lending rate to 12.5% from 9% and created room for flexibility. Thanks to that, it was able to increase average funding rate from 7.5% in December 27th to 11.9% by January 9th. From October 2012 to early January 2012, it sold US$3.4bn via direct interventions and US$8.4bn via FX sale auctions to stop the currency depreciation over 1.91 by end 2011, while it was around 1.75 in mid-November. By January 24th, US$/TL rate came down to 1.82 and the CBT abolished daily FX sale auctions of US$50mn.”

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“Expectation of a rate hike from the Fed in June 2006, which was followed by 25bps increase in federal funds rate target by 25bps to 5.25% in June 26th have led to a significant turbulence in global financial markets. Surge in US$/TL rate of 1.32 at the beginning of May 2006 to 1.60 by mid-June has urged the CBT to take measures against speculative attacks. Accordingly, the CBT directly intervened in the market and sold US$2.1bn in total in June 13, 23 and 26, plus it opened an FX selling auctions of US$500mn each in June 26th and 27th. Additionally, the CBT called for an extraordinary MPC meeting on June 7th and raised O/N lending rate by 175bps, which was followed by another 225bps hike in June 26th and 200bps on June 28th. Following those aggressive measures, US$/TL rate came down to 1.45 by early August, having seen 1.6975 in June 23 close.”

Emre here: As you can see, rate hikes played a vital role in each to ensure currency stabilization at the end of the day…