Hawks Reborn in Ankara as Yield Jumps on Surprise: Turkey Credit

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Turkish central bank Governor Erdem Basci’s unexpectedly hawkish turn yesterday sent government note yields up by the most in almost two weeks even as he cut the benchmark interest rate for the first time in 16 months.

Basci kept his overnight borrowing rate, the rate that banks earn for money they deposit at the central bank, at 5 percent, defying expectations for a reduction from six out of seven economists surveyed by Bloomberg. He cut the benchmark one-week repo rate 25 basis points to 5.5 percent, in line with the median of eight estimates. Yields on two-year notes rose 17 basis points over the past two days, paring this year’s biggest drop in emerging markets, as JPMorgan Chase & Co. said Basci probably wouldn’t cut the repo rate again for another year.

Investors viewed the move as hawkish because it upended expectations that Basci would focus on growth after the $800 billion economy’s expansion slowed to 1.6 percent in the third quarter, the slowest pace since a 2009 contraction. The bank said in a statement it was monitoring inflation and an increase in domestic demand reflected in loan growth. The decision also defied calls from industry lobbies and Economy Minister Zafer Caglayan for a more significant cut to borrowing costs.

“Today’s decision was more hawkish than expected,” Inan Demir, chief economist for Finansbank AS, the unit of National Bank of Greece in Turkey, said in an e-mailed report from Istanbul yesterday. “Further policy rate cuts are unlikely.”

Funding Cost

Basci has used a weighted average of three rates to set monetary policy since October 2011. These are the overnight lending rate, kept at 9 percent, the one-week repo rate and the overnight borrowing rate. The average cost of central bank funding to the market fell to 5.59 percent yesterday from 11.9 percent in January as Basci used the lower rates more often this year.

The Chamber of Industry in Ankara attacked his refusal to cut further, saying it showed “extreme caution” and didn’t meet expectations of businesses or the market. Chairman Nurettin Ozdebir was cited by state-run Anatolia news agency as saying he had been expecting a bigger cut or a narrowing of the rates corridor, which Basci uses to target the lira, growth, capital inflows or inflation depending on economic conditions. The same press service reported Caglayan, the chamber’s former chairman, as saying earlier in the day he expected the bank to “open the way” for the economy.

Note Yield

“The central bank is once again being more gradual than what’s expected by markets,” Luis Costa, a strategist at Citigroup Inc. in London, said in e-mailed comments yesterday. “Basci still seems to be unwilling to rock the boat.”

Yields on Turkish two-year notes rose 10 basis points today to 5.91 percent, the biggest jump in more than three months and up from a record low of 5.73 percent on Dec. 4. That pared this year’s drop to 510 basis points, or 5.1 percentage points. Turkish yields have fallen below those for India and Russia this year as slower growth coincided with a deceleration in the pace of new loans, reduction in the current-account deficit and slower inflation.

Yesterday’s move will probably “improve the central bank’s credibility further,” Yarkin Cebeci, a JPMorgan economist in Istanbul, said in an e-mailed report. Inflation at 6.4 percent in November was above the bank’s target of 5 percent. The current-account deficit will end this year at 7.2 percent of gross domestic product, according to the average of 15 economist estimates on Bloomberg, down from 9.9 percent last year.

Ratings Outlook

“While the bank sees scope for one or more cuts in the lower band of the rates corridor, there is no plan to play with the policy rate anytime soon,” Cebeci said. “We see the policy rate unchanged at 5.5 percent throughout next year.

Ercan Erguzel, an economist at Denizbank AS in Istanbul, said the bank may be merely postponing more aggressive rate cuts, rather than discounting them entirely. Policy makers may be waiting to see whether Turkey gets promoted to investment grade by Moody’s Investors Service, he said.

‘‘With an upgrade by Moody’s, demand for Turkish assets will increase,” Erguzel said in e-mailed comments yesterday. “It looks like they’re putting off a move until then.”

Moody’s rates Turkey one level below investment grade, while Standard & Poor’s puts the country a step lower. Turkey was raised to the lowest investment grade by Fitch Ratings on Nov. 5, the country’s first such rating in 18 years.

Default Swaps

Five-year credit-default swaps on Turkey were little changed at 123 today. That compared with 128 for Russia, 78 for Poland and 145 for South Africa. Rising prices show worsening perceptions of a borrower’s creditworthiness while falling costs show an improvement. The contracts pay the buyer face value in exchange for the underlying securities or cash if a borrower fails to adhere to its debt agreements.

The extra yield investors demand to hold Turkish debt denominated in dollars rather than U.S. Treasuries rose four basis points to 180, according to JPMorgan’s EMBI Global Index. The premium compares with 385 at the end of last year, and 162 for Russia.

The lira weakened 0.2 percent to 1.7817 per dollar at 5:19 p.m. in Istanbul, paring this year’s gains to 6.1 percent.

Basci said at a press conference in Antalya on Dec. 11 that monetary policy would focus on the lira’s value measured against a currency basket of Turkey’s main trading partners. The bank will respond if it sees the lira “overvalued” against that measure, he said.

“They are sort of hedging against capital inflows,” Aurelija Augulyte, an emerging-market strategist at Nordea Bank AB in Copenhagen, said by e-mail yesterday. “They are careful, but the pressure is increasing.”

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