Can Turkey ETF Survive Political Woes?

iShares MSCI Turkey ETF (ARCA:TUR) – the sole ETF focusing on Turkey – saw a terrible start to the year and is in fact the worst performing ETF in the emerging equities space this year. TUR has plunged roughly 17% this year as against flat returns by the broad emerging market funds like Vanguard FTSE Emerging Markets ETF (ARCA:VWO).

Moreover, the Turkish lira has been one of the weakest performing emerging market currencies this year – having plunged roughly 10% against the dollar. Despite the weakening lira, Turkey’s central bank chief, Erdem Basci, is facing escalating pressure from the country’s government to aggressively lower interest rates to promote economic growth ahead of the June parliamentary elections.

The political pressure has been so intense that President Recep Tayyip Erdogan has said that it would be treason if the central bank chief fails to lower the high interest rates. Turkey’s central bank has already made two larger-than-expected rate cuts in the benchmark one-week repo rate since December to 7.5% from 8.25%.

The lack of credibility of the Turkish central bank to act independently seems to be one of the primary factors behind foreign money leaving Turkey, pushing the lira to fresh lows. Fears are widespread among investors that the central bank might give in to governmental pressures at a time when inflation remains above the official target. Moreover, expectations that the U.S. Federal Reserve may soon raise interest rates is also playing foul, leading to capital outflow from the developing markets.

Consumer prices rose 7.55% from 7.24% on an annual basis in January, with annual core inflation witnessing a declining trend, having fallen to 7.73% from 8.63% a month earlier. Nonetheless, economists believe that the central bank is unlikely to make deep interest rate cuts, as demanded by the President, as inflation is still significantly above the central bank’s 5% target.

The Erdogan versus Basci standoff has raised market speculations that the central bank chief might resign soon. If that be so, we might see more pressure on the lira which might intensify the risk of an external shock on Turkey’s economy. This is especially true as the country’s economy is heavily dependent on short-term hot-money inflows to fund its trade imbalances. Also, the continuous slide in the lira will make it more difficult for banks and companies to repay their foreign-exchange debt — half of which is due within a year.

ETF Impact

Thus given that the increasing political pressure is denting the credibility of Turkey’s central bank, darkening the outlook of its economy and making investors increasingly nervous, TUR is likely to face pressure in the days ahead.

As such, investors should cautiously trade the product, which is expected to see volatile trading in the coming weeks.

TUR in Focus

TUR tracks the MSCI Turkey Investable Market Index to provide exposure to Turkish equities having an asset base of $495.9 million. The fund trades in good volumes of 420,000 shares a day, while charging 62 basis points as fees.

The fund provides a concentrated exposure to a basket of 88 stocks. TUR is heavily concentrated in its top holdings, with the top three firms together occupying roughly one-fourth of total fund assets. Sector-wise, Financials dominates the product having a little less than half of the total fund exposure. Apart from this, consumer staples and industrials are the two other sectors with double-digit exposure.

The fund has plunged 13.5% in the past two weeks. We have a Zacks ETF Rank #3 or Hold rating on TUR.

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