TUR: Cheap For A Reason
- The valuations of TUR represent a substantial discount to the corresponding valuations of EMs and the US markets.
- TUR faces a series of risks including the current Presidential regime, high inflation, currency woes, and the linkage to Russia and Ukraine.
- A high-beta asset such as TUR would represent an even greater risk when the broader markets appear to be so volatile.
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Inflation is the parent of unemployment and the unseen robber of those who have saved. - Margaret Thatcher
Investors who have the necessary risk appetite to deal with one of the most volatile landscapes around may consider looking at the iShares MSCI Turkey ETF (NASDAQ:TUR) which offers access to nearly 50 Turkish stocks. Turkish stocks currently appear to be inordinately cheap, with TUR trading at only 5.4x forward P/E; contrast this with the multiple of the iShares MSCI Emerging Markets ETF (EEM) at 12.3x, which in itself is quite cheap when you juxtapose it against stocks based in the US (despite the recent sell-off, something like a SPY currently trades at 20.3x forward P/E).
Having said that, there's a reason why TUR trades at such lowly multiples and investors shouldn't get carried away purely on the basis of valuations; in fact, patrons of The Lead-Lag Report would note that late last year, I had written an exclusive paywalled piece covering the deleterious impact of President Erdogan's policies on the Turkish economy. To get a sneak peek, you may consider looking at the YouTube video here. In this article, I will revisit some of those old themes and look at some of the recent developments that make TUR something of a tricky option.
So far, from a GDP angle, you wouldn’t think that things are particularly dire. The country bounced back pretty well from the pandemic and ended up delivering 11% growth last year, the highest in over a decade! Meanwhile, important cogs of the economy such as Turkey's housing market too remain particularly resilient as residents look for high-yielding avenues to protect their savings from the effect of inflation in the country. However, look underneath the hood, and there are plenty of risks that make investing in Turkey something of a landmine that could well explode.
Firstly, I believe it is a questionable exercise to invest in a country where the political landscape is largely controlled by one person and the central bank lacks any form of independence or autonomy. Monetary policies in Turkey are often based on what the President thinks and if things don’t go his way, he reacts by sacking officials. We’ve seen him do this not only with central bankers in the past (three central bankers have been sacked since 2019) but also recently with the chief statistician of the country who he believed was recently overstating the inflation malaise in the country. If this is his rationale for sacking someone, at what point do we then question the veracity of the data under the new statistical regime?
Speaking of inflation, this indeed seems to be the most pressing issue for the moment, buoyed, of course, by President Erdogan's unconventional policies. As pointed out in The Lead-Lag Report, if you thought inflation of 36% was bad enough, think again, because Jan’s reading came in at 49% and it looks like we could be hitting levels of 53% for Feb!
For the uninitiated, Erdogan comes from a rather backward school of thought that believes that higher interest rates actually cause inflation, and do not prevent it. Since Sep last year, rates have been brought down by 500bps to 14%, and whilst it has been maintained at the 14% level for the last two months, you could say the damage has already been done and it will be hard to overcome.
With 48% inflation, think how poorly positioned Lira-dominated assets appear to be when you look at the real interest rate on offer. Consequently, as pointed out in The Lead-Lag Report, the Lira lost a mind-boggling 78% in the last calendar year!
Since the central bank won’t get any assistance from higher interest rates, it has been forced to indulge in some serious firefighting to abet the fortunes of the Lira. As flagged in The Lead-Lag Report, last year in December alone, the bank deployed $7bn of FX reserves to alleviate the pressure but this appears to be something of a futile exercise. You also have a cascading effect on display here as even as the Lira weakens, Turkey’s foreign currency debt burden rises.
The worrying scenario now is that we have 2023 elections on the anvil and under circumstances like this, there’s no way rates get hiked as Erdogan will look to try and maintain cheaper monetary conditions to boost his popularity.
Also, consider the inflation challenges that could accrue from the recent Russian-Ukraine conflict, which is the last thing a country such as Turkey needs. Turkey relies on Ukraine to a great extent for supplies ranging from corn, soybean, iron, etc. whilst Russia too plays a very important role for Turkey be it with regards to wheat exports (last year, Turkey imported 65% of its wheat from Russia) or with regards to construction opportunities (38% of business for Turkish contractors came from Russia). Also, don’t disregard the potential loss of tourism from both these nations which would be important for boosting Turkey’s depleting source of FX reserves (Last year, close to 4.65mn Russians and 2.55mn Ukrainian tourists visited Turkey; this is unlikely to be repeated this year).
Given the dirt-cheap valuations on offer, TUR would seem like a tasty option for bargain hunters but I would urge prospective investors to tread with caution. As noted in The Lead-Lag Report, my inter-market signals have been signaling mixed risk sentiment which reflects the underlying uncertainty we're seeing in the broader markets. With the broader markets already so volatile, the last thing you need to be doing right now is latching on to a high-beta asset such as TUR (TUR’s annualized standard deviation of 47% is 3x the asset class median).
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