After its worst day in 10 years, the Turkish Lira’s early rebound is already starting to fade amid denied rumors of US officials predicting Lira’s demise, a record high yield at its bond auction, and Goldman warning of the collapse of Turkey’s financial system.
Turkey’s 10Y bond yield topped 20% for the first time ever and Turkey’s Treasury sold 539.7 million liras of 5Y debt today at 22.1% compound yield.
With tensions remaining high, the U.S. Embassy in Turkey has denied news in Turkish media that a U.S. official predicted the lira would weaken to 7 per dollar, calling the claim an entirely baseless “lie.” In two tweets, the Embassy said:
“Despite current tensions, the United States continues to be a solid friend and ally of Turkey. Our countries have a vibrant economic relationship.”
“For this reason, it is unfortunate and disturbing that an American official, who estimates that the U.S. dollar will be $7 TL, is completely unfounded and irresponsible in the Turkish media. It’s a fabricated and baseless lie.”
Well, they are right, it was not “officials” from the US government, it was “unofficials” from Government Goldman Sachs warns that further lira depreciation to 7.1 would erode all of Turkey’s banks’ excess capital.
Within the current backdrop, we view banks as being vulnerable to Turkish Lira depreciation given that it impacts:
(1) capital levels due to a meaningful portion of FC assets, which increase RWAs in local currency terms on Turkish Lira depreciation,
(2) asset quality and cost of risk, as Turkish Lira volatility can put stress on borrowers’ ability to repay as well as underlying collateral values. Moreover, Lira depreciation leads to higher provisioning requirements for FC NPLs, though banks are hedging this risk and can offset the impact through trading income.
The CET 1 ratio for Turkish banks under our coverage is around 13.2% on average on a bank-only basis and 12.2% on a consolidated basis, vs. 8%-9% fully-phased in requirement. We calculate that every 10% Lira depreciation impacts bank’s capital by c.50bp on average. Indeed, 14% Lira depreciation in 2Q18 took away around 80bp off bank’s CET 1 ratios. We estimate that the c.12% depreciation of the Turkish lira since June 30, 2018 would further reduce capital by c.60bp on average (pre internal capital generation and any management action).
We view Yapi Kredi as the weakest positioned on capital levels, with 2Q18 consolidated CET 1 of 10.7% vs. 8.5% fully phased-in minimum requirement. While the recent rights issue added 140bp to capital levels, Lira depreciation offset it by around 80bp.
We calculate that quarter to date 3Q18 Lira depreciation would offset the remaining c.60bp capital uplift from the rights issue, though this may be mitigated through internal capital generation and a potential transition to an IRB-based approach. As a result, incremental Lira depreciation could increase capital concerns for banks, especially for ones with lower capital levels.
We calculate that further Lira depreciation to around 7.1 vs. USD on average could largely erode banks’ excess capital
Finally, we note that JPMorgan is desperately keeping its ‘EM is cheap’ narrative alive, carefully dissecting Turkey away, explaining it is “miles apart” from the most of the Emerging Markets.
Gabriela Santos, global market strategist at JPMorgan Asset Management, told Bloomberg TV, that most EM economies are in a “much healthier” place, adding that investors need to see slightly stronger growth than U.S. in 2H18 and simmering trade tensions for emerging-market assets to benefit.
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