Qatar announced yesterday that it will invest $15 billion in Turkey, an amount insufficient to address the country’s hundreds of billions in foreign debts, but enough to matter for a day or two and enough to give the lira a tailwind for the moment. The other factor driving a sharp squeeze on TRY shorts was Turkish regulators’ move to limit swap liquidity. As well, the cost of holding a short position has risen sharply as a large-scale devaluation (currently around 30% annualised) gets priced into the forward yield curve.
China pulled a similar trick on CNH shorts back in 2016 on multiple occasions. These measures are unlikely to turn the tide, but traders should respect the risk of very large intraday swings as liquidity remains poor. They should also understand the costs of holding short positions due to the large carry difference and especially the TRY weakening already priced into the forward curve. Elsewhere, the news that a Chinese official will head to Washington for “low level” trade talks in late August was also credited with the sharp recovery in sentiment, but can we expect any change in Trump’s style going into the mid-term elections, when an aggressive stance plays well with his base. From Trump’s perspective, only a clear “win” of a deal that sees a Chinese loss of face would be acceptable and safe to predict that China will not sign on to a loss of face. Chart: EURUSD Yesterday and overnight we saw a solid bounce in euro crosses across the board in correlation with a sudden strengthening in the Turkish lira on the related relief for the immediate concerns linked to EU banks. But Italian yields are higher again, with the two-year BTP at a local high and the 10-year spread to Germany closing yesterday near the widest level (286 basis points) since the new populist government began unsettling the market back in May. For EURUSD traders, the chart points lower as long as we remain below 1.1500 and overhead resistance may already come in around 1.1400 if the Italian yields don’t reverse course back lower. The two levels of interest to the downside for the shorter term remain the 1.1200 (1.1187) level Fibo retracement we mentioned recently, and then 1.1000 as EURUSD likes big round numbers. Looking ahead, we’re clearly still subject to headline risk and risk-on/risk-off behavior. Turkey is still the centre of attention, but that could quickly shift if the TRY remains within the range and Italy’s yield spreads continue to widen, but even more so if USDCNY blasts through 7.00, which becomes more likely if the broad USD strength extends again.