Sunday, February 20, 2011
I checked in with the Dow Jones reporter who had interviewed me for an article on Turkish monetary policy. It turns out they changed the angle of the article a bit: Now, she is working on Turkish inflation-protected securities (bonds), i.e. TIPS. She noted that Turkish inflation-linked bonds seems to have a deeper market of compared to other emerging markets, and is wondering if I have any thoughts on this.
First of all, I should note that the article makes sense: Anytime there is a an important shift in inflation, the relative performance of TIPS versus regular government bonds is sure to change. And as I have noted several times during the past few weeks, inflation has bottomed out. But I can pinpoint to some bumps that would prevent to jump to quick conclusions.
I should start by saying I am too lazy most of the time to do international comparisons, so I did not know that fact. But what I do know is that looking at Turkish TIPS, or any TIPS for that matter, can be tricky. For one thing, there are liquidity differences. In the Turkish case, not only TIPS are much less than other bonds in a nominal sense, they are also much less liquid once you account for the fact that a significant portion is held in the banks' balance sheets until maturity. You'd have to adjust for that
But if you are not worried about inter and intracountry liquidity differences, there are two things you can do to see if TIPS are attractive or not- now, I am talking generally:
First, you can calculate breakeven inflation from the TIPS, which is simply the difference between the real interest rate of the TIPS and the government bond at the same maturity. Comparing breakeven inflation over your or markets' inflation expectations will give you a sense of how good a deal the TIPS is. I should reemphasize that by doing that you are ignoring supply differences between the two instruments, most notably liquidity. But there are several methods that you can use to account for this liquidity- for starters, you can google "cleveland fed TIPS liquidity" and look at the papers that come up.
Secondly,you can look at TIPS using your own or markets inflation expectations, which is really the other side of the same coin. Using inflation expectations, you can calculate the coupon payments of the TIPS. Then, using today's bond prices, you can calculate IRRs and compare them with yields on other government bonds.
There is no way I will do these calculations, especially on a beautiful Sunday in Marmaris, where I feel like having calamari, octopus and fish by the sea, and when there is the annual ezik-bashing at night. But for the Dow Jones reporter, or anyone else for that matter, quite a few analysts do these calculations. For example, the former Economics team at Fortis Turkey used to do these calculations a lot; Haluk Burumcekci is now at EFG Securities, whereas the rest of his team has been integrated into TEB as a result of the BNP Paribas / Fortis merger.
I just wanted to sketch some very rough guidelines, but if you have questions feel free to get in touch with me- after all, I am your friendly neighborhood economist:) And if we beat the eziks tonight, I am sure to be extra helpful:)