The Istanbul stock exchange’s benchmark BIST-100 index lost 2.73% d/d to 101,298 on October 9 as the diplomatic spat between Turkey and the US over the arrest of an American embassy staff member escalated. At one point during the day the index reached as low as 99,210, the lowest intra-day level seen since June 21 and below 100,000 for the first time since June 30.

Turkey’s national flag carrier Turkish Airlines (THY) lost 9.26% d/d, falling to TRY8.43m, while leading low-cost carrier Pegasus lost 6.23% to TRY24.38.

The Turkish lira (TRY), meanwhile, depreciated 3.19% d/d against USD to finish the day at 3.7230, having at one point been as weak as 3.9223 during illiquid early trading hours, the worst level seen since January when the currency recorded its all-time weakest rate against the greenback.

There were some hopes reported late on October 9 by the New York Times that Ankara and Washington were trying to find a way to de-escalate the row - which has prompted the US and Turkey to mutually and indefinitely suspend non-immigrant visa services - but earlier at a news conference in Kiev, where he was visiting, Turkish President Recep Tayyip Erdogan told reporters: "This decision is very, very saddening. For the Ankara [US] embassy to take a decision like this, to put into practice is saddening."

Several Turkish news networks reported that a warrant had been issued for a second US consulate worker. The arrested consular employee and Turkish national, Metin Topuz, has been accused of espionage and links to US-based cleric Fethullah Gulen. Ankara has for months been pressing Washington to extradite Gulen over his alleged role in the botched coup in July 2016, although the cleric denies any involvement and the US has shown no sign of being willing to deliver him to Turkish law enforcement officials.

“This is the most serious spat with the US over the 17-year period I have been covering Turkey, including even the Sulaymaniyah (northern Iraq city) incident where the US military hooded and handcuffed Turkish troops back in 2003”, Timothy Ash, senior sovereign strategist at BlueBay Asset Management, wrote in a note to investors on October 9.

“It is going to take a direct intervention from [US President Donald] Trump to calm Erdogan down, and even then I struggle to see that happening given in so doing Trump will just create more problems for himself with the DC establishment,” he added.

 “Market wise, it helped that this has happened over the weekend on a US holiday,” Ash also noted.

Despite the financial impact of the row, Turkish markets were not suffering from liquidity problems and the central bank was closely monitoring currency, Murat Uysal, deputy head of the regulator, said on October 9.

“Political tension is never good for the markets, and we believe that the equity market is also likely to translate into weaker trading for the whole week, depending on the tone from both sides,” Can Demir, an analyst at investment bank WOOD & Company said on October 9 in an e-mailed note.

Ankara also remains angry with the US for arming the Syrian Kurdish People's Protection Units (YPG) militia which Washington sees as the most effective force on the ground in the fight against Islamic State in Syria. Turkey describes the YPG as a terrorist organisation because of its links to the Kurdistan Workers’ Party (PKK) which launched an insurgency against the Turkish state in 1984.

In August, the US issued indictments against several security guards of Erdogan who were involved in a brawl with protesters in Washington, DC during the Turkish leader's visit there earlier this year.

And in September, US prosecutors charged former economy minister Zafer Caglayan and executives of Halkbank for conspiring to evade US sanctions against Iran.