Turkish Assets Hammered by Erdogan's Vision as Crisis Deepens

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(Bloomberg) -- The Turkish lira and bonds plunged to a new record and credit risk surged after President Recep Tayyip Erdogan said he plans to take more responsibility for monetary policy if he wins an election next month, spooking investors who worry about his distaste of high interest rates.

Erdogan’s comments are spoiling bets that a meeting at his palace last week with economic policy makers -- including central bank governor Murat Cetinkaya -- would open the way for rate increases that some investors say are necessary to backstop the nation’s assets. Some traders had been positioning for a hike at an unscheduled monetary policy meeting.

Read More: Erdogan Intends to Tighten Grip on Turkish Economy, Rate Policy

The lira fell as much as 2.5 percent to an all-time low of 4.4752 per dollar, while 10-year government bond yields jumped as much as 91 basis points, the most since at least 2014, to a record 14.81 percent. Turkey’s five-year credit default spreads jumped 22 basis points to a more than one-year high of 259.

Turkey’s assets are buckling under the weight of double-digit inflation and the economy’s growing twin deficits, and investors say rates need to move higher in order to anchor them against the prospect of higher U.S. borrowing costs and a rally in oil. The lira has weakened 15 percent against the dollar this year, extending the biggest depreciation among emerging-market currencies after the Argentine peso.

“Investors have been seeking a 100 basis point - 150 basis point emergency central bank hike to stabilize the lira, which may now be in doubt,” Chris Turner, the head of foreign exchange strategy at ING Groep NV in London, wrote in a note to clients.

Read More: What Analysts Say About Erdogan’s Plan to Tighten Grip on Policy

The rout was exacerbated after the Turkish Treasury raised less than planned from twin bond auctions on Tuesday, a sign that investor demand remains lackluster even as the yield on offer skyrocketed to highs not seen since the global financial crisis. The yield on two-year bonds climbed more than 100 basis points to 17.15 percent after the sale, while the five-year yield pushed 86 basis points higher to 16.23 percent, compounded by a lack of liquidity in the market.

Citigroup Inc. on Monday said it closed out a long dollar-lira recommendation and moved to a neutral stance on Turkish government notes from underweight, saying the central bank may be forced to hike rates.

“The problem is Erdogan’s interference and lack of confidence that the central bank has any independence to pursue policies of its own accord,” said John Hardy, the head of foreign-exchange strategy at Saxo Bank A/S. “The market will punish the lira.”

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