Wednesday, April 13, 2011

Addendum to Hurriyet column: I expect you to die, Mr. Bond

As you know, I had already posted an addendum to this week's column even before the column was published, one which solely focused on my empirical methodology. So a more general addendum is in order:

On food inflation, I devoted an entire column to food inflation, inspired my haggling with the grocer during my moonlighting activities, in November. You can see my methodology in the blog version of the column. As for the volatility of food inflation, you can see it in a previous post as well.

As for supply and demand dynamics, one factor to consider is foreigners' demand for Turkish bonds. As flows to EMs have picked up of late, a historical summary is in order:
So there seems to be some room for bonds, if history is any guide at least. In fact,  as J.P. Morgan reports, latest figures from the CBT's weekly press bulletin point to very strong flows.

As for domestic demand, as mentioned in the column, the reserve requirement ratio hikes mean that banks will not have much appetite for bonds in their investment portfolios, as they will try to get the balance sheet growth from credits. BTW, this substitution effect is another reason why it is not simply RRR up, credit down, as the CBT claims. Similarly, Turkish funds will not buy a lot government bonds, as bank bonds are much more attractive nowadays. We could see some interest from Turkish retail investors, as their bond holdings are tiny for the moment.

Finally, as  a couple of recent articles show, the points I make about Turkey are also true for many emerging markets. For example, other EMs are signaling inflation scares, and just like Turkey, rate hikes have only been partially priced so far...

BTW, not all Turkish bonds are created equally: I am more optimistic on longer-term and variable-rate bonds. My optimism is also supported by the recent flattening of the yield curve. These could also be alternatives to deposits further down the road...

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