Lira Carry Trade Wins First Prize as Selloff Ebbs: Turkey Credit

The carry trade is once again the friend of investors in Turkish bonds.

Traders who borrowed in U.S. dollars to fund purchases of Turkish local-currency debt earned 2.8 percent since the central bank’s emergency rate increases last month, the most among developing nations in Europe, the Middle East and Africa, data compiled by Bloomberg show. In the second half of 2013, the trade suffered the world’s worst losses after Indonesia.

The reversal of fortune after the central bank’s surprise decision following the Jan. 28 meeting calmed Turkish markets roiled by a corruption probe implicating the government and reductions in Federal Reserve monetary stimulus. The lira has climbed 2 percent against the dollar since the rate changes, after slumping as much as 11 percent in the prior four weeks.

“The combination of high interest and lira appreciation makes for a very excellent carry trade performance,” Thu Lan Nguyen, a Frankfurt-based currency strategist at Commerzbank AG, said in e-mailed comments on Feb. 18. “I would expect the lira to stabilize, which still would make for a good carry trade performance due to the high interest alone.”

Carry trade returns were last as fruitful for traders during the lira rally of 2012, when Turkish debt offered the third-biggest gains among emerging markets. The currency climbed 6 percent that year, the most since since 2007, as the central bank first introduced extra-tightening days, when it charges banks higher rates at auctions of repurchase agreements.

‘Excellent Carry’

Turkish two-year yields rose 20 basis points, or 0.20 percentage point, to 11.08 percent today at 4:23 p.m. in Istanbul, the highest since January 2012 and second only to Brazil among emerging countries. Three-month implied volatility in the lira was at 12.4 percent, climbing from the lowest level in two months on Feb. 18.

“It seems that much of the uncertainty is already known and priced in,” Demetrios Efstathiou, head of strategy for central and eastern Europe, Middle East and Africa at Standard Bank Plc in London, said in e-mailed comments. “Before, the lira was more expensive and the carry low. Now it is 20 percent to 30 percent cheaper and the carry is high.”

Political Noise

Currency weakness will re-emerge in the lead-up to municipal elections on March 30, Abbas Ameli-Renani, a strategist at the Royal Bank of Scotland Group Plc in London, said in an e-mailed note on Feb. 18. The elections will test voter confidence in Prime Minister Recep Tayyip Erdogan’s government following the graft investigation that came to light two months ago. Presidential elections will follow in August.

The lira declined the most among developing nations yesterday as emerging-market assets suffered contagion from the violence rocking Ukraine. It advanced 0.5 percent to 2.2043 today.

“For now, the market is completely ignoring political noise, but we expect to see a nasty shift in sentiment over the coming weeks as corruption and wire-tapping revelations increase,” Ameli-Renani said.

The after effects of tighter monetary policy still have room to buoy lira assets, according to analysts including Benoit Anne, head of emerging-market strategy at Societe Generale SA in London.

The central bank, led by Governor Erdem Basci, raised the benchmark one-week repo rate to 10 percent from 4.5 percent in last month’s move. It kept the rate and two others on hold this week, saying “tight monetary policy” will remain in place until the inflation outlook improves significantly.

Policy makers are struggling to bring annual price growth, which rose to a four-month high of 7.75 percent in January, toward a 5 percent target.

“Lira assets are in recovery mode after the powerful policy signal sent by the central bank,” Anne wrote in e-mailed comments on Feb. 18. “If the global market backdrop continues to show signs of improvement, I expect lira assets to continue doing well.”

To contact the reporter on this story: Selcuk Gokoluk in Istanbul at sgokoluk@bloomberg.net

To contact the editor responsible for this story: Daniel Tilles at dtilles@bloomberg.net

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