Monday, February 8, 2010

Weekly Hurriyet Column: ad Astra per Aspera

Below is the unedited version of my column for this week. You can read the final version at the Daily News website. Plenty of cheesy references to go around this time, but since they are in the text, I will just embed them into the article.

As for more serious matters, I am not saying that you won't be making any money by being long in Turkey: On the contrary, you'll make plenty, especially if risk aversion doesn't turn sour or EM continue getting flushed with liquidity or if the Fund comes in. I just would like to be aware that there are serious downside risks.

About a month ago, I was frantically looking for a catchy phrase to reflect the market sentiment, until I saw the talented Ruhsel tattoo the Latin phrase translating as “to the stars through difficulties” on the upper-back of my friend.

My idea at the time was to write a piece arguing that the markets were a bit overoptimistic. With VIX, a measure of the implied volatility of U.S. stock options, and often touted as the markets’ fear gauge, at below 18 for the first time since May 2008, it seemed that markets were ignoring the risks.

Merely a month later, such risks, from the bursting of asset price bubbles to government debt, from ill-timed exit strategies to unwinding of carry trades, are back on the investors’ radar. If anything, 2010 is likely to be the year of uncertainty, as a recent report from Birinyi Associates comparing major investment bank forecasts makes clear: The projections are all over the board, much more divergent than ever before.

There are still quite a few uncharted risks. For example, the rather-sanguine consensus view on commodities was repeated by the speakers at Finans Network’s panel on the Turkish economy Saturday night. Unsurprisingly, Kaan Sariaydin, ex-CEO of Morgan Stanley Securities Istanbul, whose contrarian views have proven right on more than a few occasions, offers food for thought by arguing that the world is on the brink of a food crisis.

But the biggest overlook of risks is about emerging markets, or EM, where superior performance for this year has automatically been granted. For one thing, it is a widely-held misconception that EM spreads will remain calm until the Fed starts to tighten. As BarCap’s Eduardo Levy-Yeyati notes in a recent research note, the transmission is from the U.S. yield curve to the EM spreads, so an early end to the Fed’s quantitative easing and the associated steepening of the yield curve is likely to rattle spreads unexpectedly.

It is also assumed that all EM will perform more or less equally well. In fact, all EM are equal in good times, but some become more equal than others during bouts of risk aversion. Yes, it is decoupling I am talking about, and when that happens, the hunting season will be open for bond vigilantes, and the spotlight will be on savings-oriented economies with high growth and trade surpluses, as Pimco’s Bill Gross argues in a recent report.

While this description does not fit Turkey well, lira prospects are slightly better, as locals’ foreign currency retail selling is likely to act as a buffer. But the economic outlook complicates the picture, which I summarize in my Forbes column, to be published later today. A further hurdle is the political landscape, completely off the investors’ screen, and probably mistakenly so, as Atilla Yesilada, one of the panel discussants on Saturday, convincingly argues. This is my Forbes agenda for next week.

Finally, there are risks emanating from or about the banking sector. I am leaving the former to today’s Forbes piece, but the latter could adversely affect stock market prospects: It was easy for banks to turn a profit last year by literally banking on rate cuts. This year, they will have to be smarter, which means that we could see a decoupling in the Turkish banking sector as well. The ability to undertake a well-balanced distribution of assets, improve on fees and handle lira duration mismatches and focus on core businesses is likely to determine pecking order.

It is may be just coincidence that my friend with the Starfleet tattoo is a banking executive. But I, like God, do not play with dice and do not believe in coincidences.

Just be aware that being long-Turkey in the long-run without fail, you are effectively doing both…

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