Wednesday, September 27th 2023

Turmoil In Turkey

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By David Belle 

The Lira – what is going on?

If you’ve followed me for a while then you’ll have known that for ages I’ve had the view that the Fed is King and that any of their activities will be the issue that will drive the direction of global markets through this year.

As a quick recap, the Fed’s recent activity is to unwind their massive balance sheet post-quantitative easing, where they have injected about $4tn worth of liquidity into global markets. The unwinding will cause the opposite effect; a deliquifying of the markets… but more importantly, a strangle on dollar supply.

This effect is being demonstrated currently.

Turkey is one of the most heavily indebted countries in USD, and while the Fed has been unwinding, the dollar has been gaining upwards momentum.

While the dollar increases in value, it makes it more expensive for countries holding USD denominated debt to pay their obligations

This can most easily be demonstrated by 3M USD LIBOR.


The top pane shows what I’m referring to.

Over the past few years, it’s become increasingly more expensive for banks to lend dollars to each other. See the orange line in the top pane. This can create credit risk and more importantly, liquidity risk – if we have liquidity risk, it creates massive issues in markets, where trade cannot be facilitated easily and we are susceptible to large market shocks.

A risk that I’m seeing currently is the same risk that we saw back in February/March.

Look at the bottom pane; that is the LIBOR OIS, the spread between different short term lending rates.

Note the spike when we saw the blow off back in Q1 of this year and the subsequent fall.

With the current situation in the emerging markets becoming more and more intense, I fail to see a reason as to why we will not see a spike in this measure of liquidity risk (usually credit risk but I feel the liquidity component is more necessary to talk about in this context).

With this decrease in liquidity come the problems for many emerging markets. They tend to finance themselves with debt denominated in USD. This is why you’re seeing the Rand, the Zloty and other currencies also start to show some higher velocity moves to the downside vs the dollar now.

With the Turkish stock market being in the doldrums and their credit default swap being higher than Greece’s now, Turkey may be emerging as the canary in the coal mine… maybe.

Because the word of the day will be contagion soon and this is something that I am concerned about.

Take a look at the following charts.

The first is Spain’s exposure to Turkish assets, the second, Italy’s exposure and the third is Germany’s exposure.

Note the decrease in German exposure over the last few years compared to the increase in Spanish and Italian exposure. That’s all down to Target2, the Eurozone’s payments system, and essentially shows the imbalances between the Eurozone economies.

See below.


This is hugely relevant, since if Turkey were to default or at least not be able to pay down some of their liabilities, this would cause major issues for Italian and Spanish banks (and BNP Paribas, the French bank, since they have the largest Turkish exposure out of any EU institution in the Euro area) who are already in deep trouble in my view.

Since Germany is the creditor to Spain and Italy, the contagion would likely spread to them too – this is part of the reason why last week, the ECB said that they were concerned at the French, Spanish and Italian banks’ exposure to weaker Lira.

For me, the writing is on the wall in this case.

We know the root cause and where the trouble is likely to be felt, and most importantly, why.

For me, the situation will escalate as the dollar strengthens, caused by the Fed shedding.

And it’s going to be painful.




The author was not remunerated to write the article but may trade an associated position