Turkish stock market hits all-time high amid lira collapse (USD/TRY)

The Turkish stock market is soaring. The Istanbul Borsa 100 is up nearly 4X in the last eighteen months. The index has jumped 25% since the Turkish presidential election two weeks ago, which saw Recep Tayyip Erdoğan win another term. 

This is far from a normal stock market ascent, however. Not only is it significantly outpacing every other major stock market index, but it comes amid a collapsing domestic currency and an economy in disarray following highly unconventional monetary policy. 

Why is the Turkish lira collapsing?

Tukey’s currency, the lira (USD/TRY), is down 16% since the election on May 28th, and trading at all-time low against the dollar. Two years ago, 8.7 Turkish liras were required to purchase one US dollar. Today, 23.67 liras buy you that same lira – equating to a devaluation of 63%. Over the last five years, the devaluation is higher again at 80%, when the dollar was trading for less than five liras. 

We put together a piece shortly after Erdoğan’s election win delving into the unconventional monetary policies in the nation and the currency’s demise, but in truth, a quick look at the path of central bank interest rates over the past eighteen months portrays the “contrarian” approach (to put it politely) that the regime has taken.

While the entire world hiked interest rates aggressively throughout 2022 (and continue to do so today, halfway through 2023), to combat the deepest inflation crisis since the 1970s, Turkey has not hiked once. Not only that, but interest rates have actually been cut. 

Erdoğan’s asserted after the election that the central bank interest rate “has now been reduced to 8.5% and you’ll see inflation continue to fall”. In relation to rampant inflation, he said that, “if anyone can do this, I can do it”.

The below chart compares the Turkish central bank’s approach to interest rate policy against the US:

The Turkish administration also burned through foreign reserve holdings in a bid to prop up the lira, especially during the period running up to the election. The Financial Times reported that Erdoğan reduced foreign currency and gold reserves by $17 billion in the six weeks prior to the general election, a decline of 15%. That $17 billion is split between a $9.5 billion drawdown of foreign currency and $7.5 billion of gold. 

Authorities have also introduced capital controls as part of continued efforts to prop the lira up. Foreign currency access has been made difficult for Turkish citizens, while gold imports were suspended after February’s earthquake as retail demand spiked.  The current account deficit has widened to a near-record level. 

Such is the pressure on the currency, the government introduced special savings accounts which pay out a greater interest rate if the lira depreciates (at the government’s expense). This was designed to bolster demand for the lira and protect its slumping exchange rate. There is currently over $120 billion in the accounts, and they have cost the country around $4.7 billion thus far, since they were introduced in 2021. 

Why is the Turkish stock market rising?

So, against this backdrop of a collapsing currency and monetary and fiscal mismanagement, why is the stock market rising? Well, two reasons. 

The first is for that exact reason: the currency collapse. A near-4X return in eighteen months sounds incredible, but this is measured in Turkish lira which distorts the return. In US dollar terms, the Turkish stock market looks less dramatic:

Nonetheless, while the ascent is dampened somewhat when measuring in dollar terms, it still prints a gain of 63% in the last year. For comparison, the US’ S&P 500 index is up 17% in the same time frame. So, the performance has still be terrific, and there is more than just a devaluing lira distorting the picture here.

Well, there is and there isn’t. The reason that Turkish citizens are pouring money into the stock market is because it is the best option available to protect one’s wealth. This rally is largely domestic-driven, with foreign investors still hesitant to bite off the financial and political risk that Turkey offers. 

And when you think about it, it isn’t surprising that Turks are turning to equities. Inflation hit 85% last October, and while it has softened since, it is sky-high at 40%. With pernicious inflation and a devaluing domestic currency eating into citizens’ wealth and purchasing power rapidly, as well as foreign currency access restricted as discussed above, citizens don’t have many options. 

With the central bank under the control of Erdoğan and following chaotic policy thus far, Turkish investors are piling into stocks, regardless of fundamentals. It all adds up to a very unnatural stock market climb, but one that makes perfect sense under the unique circumstances. Simply put, Turks don’t have many other places they can turn to protect their purchasing power. 

Is there a new monetary regime in Turkey?

We published an analysis last week on the lira following new finance minister Mehmet Şimşek’s promise that Turkey would return to “rational” policies. 

“Transparency, consistency, predictability and compliance with international norms will be our basic principles in achieving the goal of raising social welfare,” he said as he formally took the role of finance minister. 

Turkey has no choice but to return to a rational basis. We will prioritise macro financial stability.

But it remains unclear how much autonomy Şimşek will be granted, with Erdoğan notorious for controlling the central bank and the monetary regime. Besides, if conventional policy is pursued, the lira will likely tumble further before stabilising, given the artificial propping up of the exchange rate that Erdoğan has carried out to date. 

“Reducing inflation to single digits in the medium term . . . and accelerating the structural transformation that will reduce the current account deficit are of vital importance for our country,” Şimşek went on to say.

Either way, the Turkish stock market seems likely to continue to attract inflows within the country, as this dual problem of inflation and currency devaluation does not have an easy fix.

Sullying the picture further is Erdoğan’s comments after the election, which promised to keep rates low – which would represent the exact opposite of the “rational” policy that Şimşek promised the nation would return to. 

“Please do follow me in the aftermath of the elections, and you will see that inflation will be going down along with interest rates,” Erdoğan told CNN ahead of the election in May. Pushed further on whether that meant there would be no change in economic policy, he replied emphatically, “Yes. Absolutely.”

Those quotes , and this contradiction against the rational policy promised, perfectly sum up why Turkey is in such a mess, and why foreign investors will likely remain hesitant to consider Turkish stocks. At the same time, it also explains how for Turkish citizens, the stock market has been their best option. But this is far from a “normal” rally.