Chart of the Week : Turkey 5Y CDS

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Today’s edition focuses on Turkey. The country’s 5-year CDS has receded from its peak of mid-March, but it is still elevated at 441bp, which is way above its long-term average of 345bp. This relative improvement is mostly due to U.S. dollar weakness which is typically favorable to EM markets and especially the Turkish market. However, upward risk remains as political interventionism is still driving monetary policy and preventing the CBRT from committing to hike interest rates. Facing a balance of payment crisis, in our view, Turkey has little choice but to increase rates. The strategy which has consisted in using state banks as front line in defence of the TRY exchange rate has been a complete failure. The Turkish lira has dropped another 0.76% last week, bringing YTD depreciation to 24.18%. This makes the TRY the 2^nd weakest emerging currency, just after the Brazilian real which has decreased by almost 35% versus the USD over the same period. Turkey should follow Kazakhstan’s example. In March, the country decided to let the FX rate go and hiked aggressively rates by 275bps in one shot and since then the tenge exchange rate has stabilized and the central bank has been able to cut rates back down to 9% to stimulate the economy. This is the only correct and rational path to choose if the CBRT wants to avoid more drastic measures in the near future, i.e. capital controls and debt restructuring.