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Turkey ETF Rallying Hard: How Long Will the Trend Last?

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The investment scenario in Turkey, a tremendous laggard one-and-a-half years back, is on an uptrend since the fourth quarter of 2019. The winning momentum is showing no sign of losing strength as evident from 5.6% year-to-date gains in iShares MSCI Turkey ETF TUR (as of Jan 17, 2019).The fundadded 14.6% in the past six months.

Volley of Rate Cuts

Turkey has been on the headlines for back-to-back massive rate cuts. The latest 75 basis point cut on Jan 16 followed four successive slashes during the last four monetary policy meetings held last year.   

The country’s central bank lowered the key rate to 12% from 14%, more than market expectations of a 150-bp cut in December. This followed a 250-bp cut in its October meeting (way more than market expectations of a 100-basis point (bp) cut), a 325-bp rate cut in September and a hefty 425-bp cut in July.

Decent Inflation Outlook

Inflation outlook remains decent amid a moderate recovery in economic activity. In October, Turkey's sky-high annual inflation rate fell to 8.55% — a three-year low. In November, inflation shot up to 10.56%, but the rise was less than expected. In December, the inflation rate rose to a four-month high of 11.84%.

Rebound in GDP

Treasury and finance minister Berat Albayrak estimated that the Turkish economy expanded by a solid 5% in the fourth quarter of 2019, after growing 0.9% in the third quarter, and contracting of 1.6% and 2.3%, respectively, in the second and first quarter of 2019.

Cheaper Valuation

The Istanbul benchmark index trades at 6.5 times estimated earnings at the start of 2020, compared with a multiple of 13.1 times for the MSCI Emerging Markets Index, per Bloomberg. This could be one of the reasons for the latest outperformance in the Turkey ETF. The P/E ratio of the fund stands favorably at 7.16x versus iShares MSCI Emerging Markets ETF’s (EEM - Free Report) multiple of 12.77x and SPY’s P/E of 19.67x.

De-escalation in U.S.-Iran Tensions

Though the Turkey ETF took a plunge to start 2020 on worsening U.S.-Iran row, sooner-than-initially-expected de-escalation boosted the Turkey fund materially. The Borsa Istanbul 100 Index surged 4.5% on Jan 9 on cues of receding Middle East worries, marking its biggest spike since November 2015 and outperforming more than 90 other global equity benchmarks tracked by Bloomberg.

ETF in Focus

The fund seeks to deliver investment results that replicate the price and yield performance of the MSCI Turkey IMI 25/50 Index which is composed of Turkish equities. With AUM of $405.2 million, the fund has 43 holdings. It has an expense ratio of 0.59%.

Will the Rally Last?

While a series of rate cuts propelled Turkish stocks higher in the past six months, the way ahead from here may not be smooth. With inflation exhibiting an uptrend, central bank’s rate cut momentum is likely to slow down ahead or completely comes to a halt.

Several market watchers are of the view that the benchmark would be somewhere around 11%. So, another cut is expected in the near term.  After that, increasing inflation, widening current account deficit and a likely weakening in the lira could push the Central bank to go for rate hikes later in 2020. This is especially true given the strengthening of the U.S. dollar in recent times. So, even if there is a rally in TUR now, the wining momentum may fade in the medium term.

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