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Unleashing Potential: Turkish Lira Triumphs in Emerging Market Carry Trades


Leo Gonzalez

May 13, 2024 - 10:55 am


Emerging Markets Carry Trade Spotlight: The Rise of the Turkish Lira

Investors seeking to amplify their returns might look intently at one of the recent rising stars in the world of emerging markets: the Turkish lira. Over the past six months, a carry trade strategy—borrowing U.S. dollars to invest in Turkish assets—has emerged as the top performer, enjoying a robust boost that some financial experts believe is only in its nascent stage. As the Turkish Central Bank adheres to orthodox policies and the inflation rates begin their steady descent, the prospect for the lira looks promising.

A Lucrative Carry Trade in Emerging Markets

In the interconnected global financial markets, carry trades have become a popular strategy for sophisticated investors. The premise involves borrowing funds in a currency with a low-interest rate and then investing that capital into assets denominated in a higher-yielding foreign currency. For the past half-year, this strategy has reaped rewards for those who borrowed in the relatively cheap U.S. dollar and invested in Turkish lira-denominated assets. According to comprehensive data curated by Bloomberg, these investors have realized gains surpassing 12%, eclipsing the performance of other emerging markets such as Mexico and Russia, which saw approximate gains of 8%.

The Optimistic View of Portfolio Managers

Amid this landscape, noted portfolio managers like Daniel Wood from William Blair International project that the Turkish lira's allure is far from over. A significant decrease in Turkey's inflation could mark only the beginning of a period where the lira becomes a magnetic draw for international investors. Ensuring continuity in policy is recognized as the most critical element in maintaining the value of this trade.

High Interest Rates and Currency Performance

The mechanics of carry trade returns are primarily driven by the interest rate differentials between countries. As of this year, the lira's value against the dollar has diminished by 8.3%. However, this decline has shown signs of stagnation, with the Turkish currency stabilizing and even noting intermittent weekly gains. This follows a considerable and unexpected interest rate rise by Turkey's Central Bank in March. The governor of the bank, Fatih Karahan, has made a staunch commitment to aggressive measures to curb inflation when necessary.

A Surge in Investor Confidence

The assertive stance of Turkey's Central Bank has begun to resonate with the international investing community. Praise for the lira and endorsements for engagement in lira trades have come from financial giants such as Citigroup Inc. and JPMorgan Chase & Co. With more confidence in the market, the possibility of easing restrictions on offshore currency swaps is being explored. These were initially implemented to shield the lira from excessive speculation but inadvertently hindered foreign investment by complicating hedging strategies.

The Impact of Swap Restrictions

Turkish Lira

A recent Bloomberg report indicated Turkish officials might consider relaxing these swap restrictions to encourage a greater influx of foreign capital into lira-based assets. This gesture would remove a considerable barrier that has previously dissuaded offshore investments in the Turkish market.

Reassurance Despite Past Policy Reversals

Investment firms such as Columbia Threadneedle Investments have observed the Central Bank's recent policy communications with a sense of reassurance, especially considering past unpredictable policy shifts. These signals of steadiness have reassured foreign investors, like portfolio manager Gordon Bowers, who see both a capability and a willingness from the bank to foster a stronger currency.

Divergence in Lira Borrowing Rates

Concurrently, there has been an uptick in long lira positions abroad, which has created a gap between onshore and offshore borrowing rates. Offshore rates have plummeted to about 30%, a stark contrast to the domestic yields exceeding 50%. Such disparities could potentially undermine the carry appeal of the lira abroad, where investors only harvest approximately half the earnings they would realize within Turkey itself.

The Renewed Interest in Turkish Assets

Carry trade engagement with Turkish assets was once a predominant strategy among investors focused on emerging markets. Unfortunately, such interest waned after the implementation of regulations aimed at impeding the short-selling of the lira. However, a wind of change swept through following the appointment of a more market-friendly economic officials' team, led by ex-Wall Street banker Mehmet Simsek, by President Recep Tayyip Erdogan post-elections.

A Pivot Towards Traditional Monetary Policies

Since engagement with the new economic team, concrete changes have been apparent. The central bank accelerated its policy rate from 8.5% to a staggering 50% while dispensing with several previous unconventional measures. These previous tactics, such as compulsory bond purchasing forced upon Turkish lenders, had subdued yields and repelled foreign investors. This strategic policy shift has proven crucial in stabilizing both the interest rates and currency markets in Turkey, bolstered by President Erdogan's endorsement of the Central Bank's methods to combat inflation.

The Evolving Perception of Presidential Intervention

Investor apprehensions regarding President Erdogan potentially interceding in monetary policy have lessened. This change in perception comes with the recognition that policies promoting high inflation, derived from a preference for low-interest rates, have seen a decline in domestic popularity, as noted by Ulrich Leuchtmann, head of FX Research at Commerzbank in Frankfurt. Thus, the fear seems diminished that the president may exert undue influence over the Central Bank to flatten interest rates at any moment.

A Surge in Foreign Investment

-The Turkish lira's improved stability and policy shifts have drawn the attention and action of foreign investors. Since the policy shift began in June of the previous year, investors have accumulated a net $3.7 billion in Turkish bonds, indicating positive market sentiment toward Turkey's economic management and the potential longevity of these reforms.


With the continual refinement of monetary policies and an environment that increasingly favors investor entry and participation, the Turkish lira demonstrates potential as a leading draw for those seeking fertile opportunities in emerging markets. As professional investors and financial institutions observe and engage with the revival of the lira carry trade, the international financial landscape watches cautiously, hopeful for sustained economic stability and growth in Turkey and beyond.

Bloomberg L.P. ©2024

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