News & analysis

While oil markets continue to draw the focus of markets today, risk sentiment has improved dramatically. In the G10, GBP and AUD lead the way in reclaiming ground lost earlier in the week while the dollar softens across the board.

This theme is extended into the EM space with currencies such as RUB and ZAR breaking 1% gains, while TRY remains one of the standout currencies to suffer losses against the dollar. The South African rand’s gains today come following a fiscal pledge by the government yesterday evening to shore up the economy, while the lira currently sits in the red after the Central Bank of the Republic of Turkey cut rates by 100bps to 8.75% at today’s meeting.

The rate cut exceeded market expectations, which roughly sat at a 50bp reduction, and has prompted further selling pressure on the currency as USDTRY approaches the key psychological 7.00 level.

 

Graph: Expanded Major returns vs USD today

 

The Turkish Lira slipped as much as 0.2% today after the CBRT cut the benchmark interest rate with 100bps, significantly more than the forecasted 50bp cut, to 8.75%. USDTRY reversed its trend to move towards the key psychological 7.00 barrier, a level that has not been crossed since the 2018 currency crisis. The CBRT’s aggressive cutting cycle has left the lira exposed to a global selloff. Turkish inflation in March slowed despite the depreciating lira, most likely because the rout in oil markets offset some of the upward inflationary pressures, but rising inflation will be on investors’ minds as the currency continues to slip. In their statement, the MPC emphasised the improvement in financial conditions before the virus hit, and states that continued sharp decline in international commodity prices, especially crude oil, should affect the inflation figures favourably. However, this failed to shore up investor confidence, prompting the lira to depreciate on the news and pressure the currency controls currently in place.

Since the beginning of the year, the lira has weakened nearly 15% against USD. This month, it is ranked as the worst performer in emerging markets second to ZAR, which hit fresh record lows in early April.

The lira’s depreciation comes with increased risk to financial stability as well, especially considering that Turkey’s foreign currency reserves are dropping rapidly as state banks and the central bank try to buffer market forces.

The CBRT acknowledged this today and actually increased the amount of hard-currency swaps that private lenders can hold on their books in a bid to increase the amount of foreign assets on their books. This follows reports from Reuters on Sunday that the CBRT held extended talks with the Federal Reserve and Bank of England to open swap lines in order to protect the lira from a currency crisis. Given Turkey’s reliance on tourism as a large source of income, overall high inflation and significantly low real yields, this makes a perfect recipe for low GDP growth in the coming quarters. With this on the horizon, should the CBRT fail to replenish their reserves or access swap lines with global central banks, the lira is highly likely to break the 7.00 level as market forces continue to ramp up the pressure. However, the government could still intervene by clamping down on state banks supplying liquidity in offshore swap markets, similar to the measures used in 2019 prior to the election. This would cause a rise in the cost of rolling short positions and increase the difficulty in executing.

 

Chart: Turkey’s foreign-currency reserves sharply falling as the 7.00 level is defended

 

The South African rand is one of the notable performers today against a softening dollar after plans were revealed last night that the government will release a R500bn ($26bn or 10% of GDP) package to shore up the economy from the fallout of the coronavirus. The country has been in a state of lockdown since March 27th, with initial measures extended recently to the end of April. The plan will be funded by R130bn of expenditure from pre-existing budgets, taking some of the strain off of the government’s finances. The package itself includes R200bn in guarantees for banks to encourage them to lend, R100bn allocating to protect and create jobs, and R50bn for welfare grants for the poor and unemployed.

 

Graph: Yields on South African benchmark debt continue to fall as investor sentiment improves

The World Bank, International Monetary Fund, the New Development Bank and the African Development Bank are among the institutions that have been approached for additional funding options, with the details on funding set to be announced at a later date. Trudy Makhaya, Ramaphosa’s economic advisor, said in a phone interview today that the government would want to keep the amount it tapped from the market at a minimum. These comments have helped yields on the benchmark 2026 bond fall for a fifth consecutive session. The move comes shortly after a string of sovereign credit rating downgrades, most notably from Moody’s, which according to Finance Minister Mboweni allowed South Africa’s government to stimulate the economy after the threat of a downgrade was realised.

While details on where the money will directly go and which budgets will be cut to fund the spending are needed to judge the sustainability of the stimulus package, the rand is enjoying the stimulus today to regain some lost ground as it hovers near record lows against the dollar.

 

Authors: 
Simon Harvey, FX Market Analyst
Ima Sammani, FX Market Analyst
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