Over the past year or so, investors looking to explain the gravity-defying performance of the Turkish stock market have been hunting “the Dude”, a shadowy algorithmic trader who turns up when the market is volatile to dominate buying and selling. But in the past two months, some stock analysts have started to feel the market is entering a new phase of reliable outperformance and that if you're looking to identify the dude behind that, you don't need to look very far: his name is Recep Tayyip Erdogan, the all-powerful president of Turkey.

Many portfolio managers had expected the Istanbul stock exchange to struggle this year with Turkey swamped by political troubles and battling to resist an economic descent, but Erdogan and the government have been working overtime to inflate credit and introduce various other stimuli that have fed through into the bourse's main index.

“They [the government] keep pumping the economy with so many incentives and as long as they do that, as long as the stimulation keeps on coming and the stock exchange is seen as cheap on emerging market comparisons, I don't see any reason why the Turkish bourse will start underperforming in the short term,” a senior Istanbul-based stock analyst at a major international bank told bne IntelliNews. 

His reflections came shortly after the benchmark BIST-100 index closed on June 30 at 100,440, little more than a hair's breadth from its latest all-time high. The recent historical peak put the index 29% up in the year to date, compared to the 15.2% fall in Russia's MICEX.

“Of course, it is nothing sustainable, it is just for saving the day in the face of economic pressures, and there will be a price to pay somewhere down the road. But nobody cares at the moment with possibly no threat for many quarters to come given that Erdogan will have his eye on growth and having no upsets before the 2019 general election,” he added.

The analyst said that one of his biggest concerns is that the government, by buoying economic growth with a TL250bn ($70bn) credit guarantee fund (CGF), is “giving away the asset quality of the banks”. Asked to outline his trading strategy, he said “we'd have to say that 'defensiveness' is the first criterion, with other criteria being 'quality name' and 'consumer-oriented'”.

“Long-term investor beware”

His sentiments, amounting to a caveat of “long-term investor beware”, somewhat reflected a bulletin released by emerging and frontier markets specialist investment bank Renaissance Capital back on June 12. It stated: “Our constructive view on Turkey is only tactical... We emphasised [in May 2015] that excessive credit growth is Turkey’s key macro vulnerability. Private sector debt rose from 16% of GDP in 2001 to 69% of GDP in 2016, echoing what we have seen in Greece and Brazil. This is likely to end badly, in our view, just not yet.”

 

 

Ministers certainly face an unenviable set of woes in the struggle to maintain expansion in Turkey, weighed, among other things, by an absence of much-needed foreign direct investment. Foreign investors fear structural economic reform is taking a back seat and partly as a consequence FDI fell from 2007's record $22bn to $12.3bn last year. Other big difficulties include double-digit annual inflation (although in June it eased to 10.90% from 11.72% in May) and a substantially weakened Turkish lira, which has toppled from 2.83 to the dollar to as low as 3.94 in the past year, though it has lately been trading at closer to 3.50.

Erdogan, meanwhile, continues to rule by decree under a state of emergency introduced almost exactly a year ago after Turkey's failed coup attempt. After the country’s largest business association raised anxieties about its duration, he defiantly declared, “The state of emergency will never end — not until there is peace and welfare in the country”. Also giving some investors the jitters when it comes to the security of investments placed in Turkey is the fact that the president, having narrowly won April's referendum on introducing an executive presidency, now has the authority to essentially control the executive, the legislature and the judiciary, with near-total judicial and parliamentary immunity.

Add to those anxieties Ankara's ongoing spats with the EU over its receded prospects of membership, the jailing of journalists and seizing of businesses, the massive purges against anybody and everybody allegedly associated with the Gulenist network the government claims was behind the failed putsch, and rows with Washington over the arming of Kurds in the Syria conflict – it is easy to see why Erdogan might have felt the need to flood the veins of the economy with loose credit, tax cuts and other stimuli. But, for now, it's paying off.

GDP growth recovered in the first quarter to 5%, springing back from a drop of 1.3% just two quarters ago, while Turkey’s calendar-adjusted industrial production index moved up by 6.7% y/y in April, marking the best growth in output recorded in 20 months.

Government balance sheet to the fore

By June 30, the BIST-100 had a market cap of $180.8bn versus the Russian MICEX's $473.1m, while its price/earnings (p/e) ratio was 9.3 in 2016 versus the latter's 6.3.

In a joint response to bne IntelliNews' questions on exactly what is driving the Borsa Istanbul, two representatives of Renaissance Capital – Daniel Salter, head of research-Eurasia and Metin Esendal, Turkey consumer and industrials analyst – noted that “the Turkish economy is picking up on the back of government efforts and subdued political uncertainty following the referendum”. 

They added: “The government is using its balance sheet to support credit growth – via guarantees which have helped push FX-adjusted lending growth towards 30%. Government efforts including the introduction of the credit guarantee fund, the postponement of social security premiums, VAT/special consumption tax cuts in some consumer products, etc., have clearly helped both sentiment to improve and demand to pick up in the year to date.”

Turkey's Q1 2017 GDP data showed public consumption grew by almost 10% y/y and the country's manufacturing PMI has been on an improving trend since January (it broke through 50 into positive territory in March and in June hit 54.7, its best level in 43 months), Salter and Esendal observed. Taking into account the mild under-valuation of the Turkish lira and expected GDP growth of at least 2-3% in 2017, “we think this means investors can find value in Turkey for now,” they added. 

While many analysts have lately not seen Turkey's listed banks as compelling on valuations, the Renaissance Capital representatives view them as likely to beat the market expectation of 5% earnings per share (EPS) growth for this year as they assess their asset quality as much healthier than market expectations, and volumes outpacing management guidance. 

Asked for an advisable trading game plan for the BIST-100, they said: “We are selective in consumer and industrials as large parts of the non-financial sectors are trading on relatively full valuations. We see potential for upside in financials in the second half, assuming a disinflation story plays out later in the year; currently we are still cautious. We like Sabanci Holding, Coca-Cola Icecek, Ulker Biskuvi, Yatas, Ulusoy Elektrik, and Lokman Hekim.”

Looking at the cheapness of the Turkish stock market as a big factor in attracting capital inflows, Renaissance Capital detailed how Turkey is the second-cheapest MSCI EM market on a 12 month forward p/e basis after Russia, and third cheapest on a sector-adjusted basis; the fourth-cheapest market in EMEA versus its 10-year average 12 month forward p/e, and one of only eight countries in MSCI EM trading below its 10-year average 12 month forward p/e. 

Turkey, Renaissance added, is the fourth most overweight market among active managers in MSCI EM countries, while it has the highest 2017 three-month EPS revisions ratio in MSCI EM. 

Forced on to the defensive

Another investment bank all too aware of the government's key role in lifting the Turkish economy is WOOD & Company. In an end of April note to investors, it advised: “The risk of populism is high. Given the need to lift the economy before the 2019 election, we would normally expect Erdogan to tone down the negative rhetoric with the EU to help business confidence, allowing the much-needed foreign funding for growth. We have seen little of this for now, although we believe it is also a function of the EU’s own indecision on how to deal with the 'new Turkey' going forward. At the risk of perhaps drawing conclusions too early, we fail to see a concrete game plan for the economy.”

The bank – currently giving its top picks as Emlak Konut, DO&CO, Ford Otosan, Migros, Tupras, Turkcell, TSKB and Coca-Cola Icecek – said it was positioning its non-financials on a combination of high-beta and defensive names. It added: “Under a benign scenario, where the focus returns to the economy, we could envision some rerating on Turkish equities, as we believe that growth may surprise to the upside, implying upward earnings revisions – although we believe that significant structural reforms are unlikely before the 2019 election. The possibility of an economic recovery, be it government-fuelled, vs. policy uncertainties has forced us to position for the combination of defensive and consumer-driven names.”

When all's said and done, the stock market analysts divide between those who will bet on plentiful healthy economic growth – as well as Turkey's young consumerist population – that the bourse can continue to draw on and those who perceive too much unhealthy growth that could end in tears. 

This past six months has seen Turks swiftly buying up foreign currency, pushing foreign exchange deposits to $165bn in mid-June, up from $142bn at the start of the year. By some measures, therefore, it seems that despite the exchange’s strong performance, Turkish consumers have already got the “rainy day” jitters.