Turkish lira erases year's gains after bond rout

ISTANBUL: The Turkish lira slid for a fifth straight day on Friday, hit by surging US bond yields that helped erase all the year's gains and set the stage for a potentially tougher battle against double-digit inflation.

The lira fell as far as 7.4780 to the dollar and traded at 7.4450 by 1150 GMT, down 1.6% on the day and on track for its worst week since the height of a currency crisis in August 2018.

It had rallied strongly until mid-February, outstripping its emerging market peers, after ending last year at 7.44, but a rout in global bond markets has spooked investors who have dumped EM currencies amid fears the losses could trigger distressed selling elsewhere.

Ten-year US Treasury yields have jumped by the most this month since 2016.

A measure of investment risk, Turkey's five-year credit default swaps, or CDS,, rose by 10 basis points to 302 while volatility gauges hit mid-January levels.

If the lira weakness continues despite some of the tightest monetary policy in the world, import-reliant Turkey - which imports virtually all its energy needs and many consumer products - could see further upward pressure on inflation that is already at 15%.

Piotr Matys, Rabobank senior strategist, said the selloff posed risks but was likely temporary.

"There is going to be a strong pushback from major central banks to prevent yields from rising even further and that should stabilise the lira and other EM currencies," he said, adding he expects the lira to hit 6.50 this year.

However, he said the sudden drop in the currency could sap confidence and stall any reversal in a dollarisation trend that has seen Turks snatch up record amounts of hard currency.

Istanbul's main stock index tumbled nearly 3% before recovering half those losses, while Turkey's 10-year bond yield rose 23 basis points to 13.5%..

PATIENCE GAME

Last week the central bank held rates steady at 17% and promised tighter policy if needed to rein in prices.

Edward Parker, managing director at Fitch Ratings, said he expects rates to remain at 17% "for the bulk of the year" before being cut to 15% by year end.

But "if inflation does not come down too quickly or there is too high a cost in terms of growth," President Tayyip Erdogan could easily lose patience with the shift to tight policy, especially given elections are set for 2023 and opinion polls are split, he said.

"President Erdogan may well be pragmatic, but he is not necessarily patient," Parker said in an online forum on Thursday.

Until this week the lira had gained 8% this year and 20% since early November when the finance minister and central bank governor were replaced, Erdogan pledged a new market-friendly era, and rates were hiked.

But the currency has fallen more than 5% this week, as US yields rose and the Turkish government defended former finance minister Berat Albayrak's record.

Albayrak oversaw some unorthodox policies including state banks selling some $130 billion in dollars during his two years in office, which sharply depleted Turkey's FX reserves. The currency shed about half its value in the same period.