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This is an edited transcript of our 12 Investment Ideas For 2021 From Our Listeners podcast episode. The trade ideas are the personal opinions of the listeners and not intended to be investment recommendations. While we have tried to make the transcript as accurate as possible, if you do notice any errors, let me know by email.
(1) Buying clean energy: Invesco Wilderhill Clean Energy ETF (PBW) – Rohan Yelvigi (01:09):
My favourite trade for 2021 will focus in the ESG and climate change sector, in particular, Invesco WilderHill Clean Energy ETF. I chose this Invesco Clean Energy ETF as my trade idea to get distributed exposure to the clean energy sector in the mid to small-cap growth arena versus just a single stock name. In 2020, this ETF posted over 200% year-to-date, overall, up close to 10% in 10 years. I believe there is still healthy upside to this ETF and the ESG clean energy space overall for the following reasons.
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This is an edited transcript of our 12 Investment Ideas For 2021 From Our Listeners podcast episode. The trade ideas are the personal opinions of the listeners and not intended to be investment recommendations. While we have tried to make the transcript as accurate as possible, if you do notice any errors, let me know by email.
(1) Buying clean energy: Invesco Wilderhill Clean Energy ETF (PBW) – Rohan Yelvigi (01:09):
My favourite trade for 2021 will focus in the ESG and climate change sector, in particular, Invesco WilderHill Clean Energy ETF. I chose this Invesco Clean Energy ETF as my trade idea to get distributed exposure to the clean energy sector in the mid to small-cap growth arena versus just a single stock name. In 2020, this ETF posted over 200% year-to-date, overall, up close to 10% in 10 years. I believe there is still healthy upside to this ETF and the ESG clean energy space overall for the following reasons.
- President Elect Joe Biden and Kamala Harris plan to invest two trillion in clean energy initiatives over the next four years.
- There could be some hurdles with a Republican Senate, but I overall think there will be a strong fiscal push in ESG and climate change with this administration.
- Although historically there has been a buzz around ESG, climate change, and green energy equities, investors have not necessarily been rewarded for the forward thinking and the risk being taken. I believe that narrative will continue to change as portfolio construction in the markets will have ESG quantitative methodology methods to hit.
- As we hopefully and successfully move past COVID, the EV, solar, wind, hydroelectric, and the switch from fossil fuel to renewables will become a stronger theme.
- What are some of the data points around this ETF?
- Over 2.5 billion assets under management, expense ratio that is a touch high at 0.7. Over 50% of the underlying fall in into three sectors: renewable equipment and services, auto and truck, and semiconductors. The geographical exposure is around 80% in the US, which bodes well for the upcoming fiscal stimulus.
- 75% of the book is in the mid to small-cap growth sector, which I like when I’m looking for a potential explosive growth in 2021. What are some of the other competitors and alternatives you have? There are a few more ESG and climate-related ETFs that had positive years in 2020. Also, I’m not opposed to a single stock name, for example, a huge fan of Tesla. However, the distribution and concentration of the Invesco Clean Energy ETF in the mid to small-cap growth names still has room to grow as a value investor, along with the assets under management to weather volatility as this market continues to mature.
- Some signals that led me to this trade idea.
- I’ve noticed the venture asset class make a strong push around innovation in the ESG and clean energy sector, along with spirited debates globally in high-profile economic forums. I believe improved late-stage financing in privates will correlate to more investor confidence in small to mid-cap growth equity names.
- What other macro-signals are there? The continued low rate environment will allow financially healthy ESG and clean energy companies to take on more progressive projects. Alternatively, while I think the MBS, FX, and credit markets will have plenty of opportunities in ’21, the ten-year rates remain low. Investors who have turned to BTC and blockchain for explosive growth can mitigate risk and participate in high upside in the ESG and climate sector based on transparency.
- I believe Invesco WilderHill Clean Energy ETF has 35 to 40% upside in ’21, but it is not limited, as larger moves could happen. Thanks for listening to my ’21 trade idea. Hopefully, the year ’21 represents Black Jack-like returns for everyone’s health and impactful views.
(2) Buying Japan stocks – iShares MSCI Japan ETF (EWJ) – Peter Repetto (04:45)
For my 2021 best trade idea, I’ll be discussing Japanese equities.
- For macro investors, I think it’s important for them to identify strong trends and trends that exhibit strong momentum. For both the trend and momentum indicators that I monitor, I believe I shared with the group the white papers over the summer. However, for those that are interested, I’m happy to re-share those papers.
- For the trend indicator, it should come as no surprise to your listeners that Japanese equities are in a strong uptrend. However, when you’re in this environment, returns tend to be better than average, and these returns also have a higher hit rate than what you’d see in a regime agnostic environment.
- For the momentum indicator, I look at momentum over two windows, a short window representing about three months, a long window representing about 12 months. For the month end December, Japan equities were in the top quartile for both the short window as well as the long window.
- Much like the trend indicator, when in this regime, it’s associated with stronger than average returns, and these returns also have higher hit rates than what you’d see in a regime agnostic environment.
- From a more technical perspective, we know that the Nikkei has hit its highest level since the ’90s. When you pull up the chart on Bloomberg and you look at its pattern, it gives you a potential upside count to 35,000 on the Nikkei. This is about 30% higher from current levels. While I’m not projecting a 30% return for Japanese equities, over the next 12 months, I do think it represents a potential upside target of where Japanese equities could go.
- While it’s important for macro-investors to identify strong trend and strong momentum, it’s also important for them to identify where we are in the business cycle. For this, I decompose the OECD leading economic indicator into four regimes: recovery, expansion, slowdown, and contraction.
- Currently, we’re in the recovery phase, but I expect this indicator to return to expansionary territory, especially with the vaccine rollout that’s expected for 2021. When in this regime, we typically see market returns that are stronger than average for Japanese equities, and again, these returns have higher hit rates than what we’d see versus a regime agnostic environment.
- For the Japanese economy, I see two key drivers, one in the short-term and one in the long-term.
- For the short-term, the Olympics in the summer will be a key driver for economic growth. While fan attendance will be dependent on the vaccine rollout, if we follow the schedule that experts forecasted, there should be some fan attendance for the Olympics. This should provide a tailwind for inbound tourism, which has been nonexistent during the pandemic.
- Over a longer-term basis, I think the Japanese economy should benefit from the theme of digitalization. Today, Japan lags in information, communication, and technological investment when compared to other OECD countries. However, Prime Minister Suga has made digitalization a priority for his administration. This was specifically seen in the recent fiscal package, which created a new digital agency for the government.
- Today in Japan, software accounts for only three percent of intellectual property. This compares to the eight percent in the US, not to mention that buildings and structures make up about 95% of fixed assets. This structural underinvestment was exposed during COVID, especially with the shift to a work-from-home environment. This should continue to force corporations to invest in software over the coming years. Even in a recent Economist article, it reckoned that digitalization of government services could boost GDP per person by more than one percent.
- While Japan has a number of tailwinds going for it, there are risks.
- In the back half of the year, there is the potential for a snap election to come as soon as September. This could present a challenge to Japanese equities, as we could see an increase in political uncertainty. While we’re not there yet, this is something we’ll have to continue to monitor.
- While there are a number of ways for your listeners to access Japanese equities, the easiest way would be through the MSCI Japan ETF under the ticker EWJ, which comes at a cost of 49 basis points. I thank you for giving me the time to discuss Japanese equities today, and I hope you and your listeners have a very happy and healthy 2021.
(3) Buying healthcare and financial sector equity volatility – Stephan Howard (09:32)
My favourite trade for 2021 is a long volatility structure, referencing US healthcare and US financials.
- Healthcare because we have the most challenging health crisis of the past hundred years occurring right now, so we should expect structural reform in the US around the medical and healthcare delivery mechanisms,
- and financials, if the economy stumbles materially, as there should be some formalized support from the Fed and the Treasury as we saw in early 2020, and if the vaccine inoculations deliver on the US’ ability to reopen the economy, then the next stage of repricing of risk assets would drive capital market and lending activities quite materially.
(4) Position for equity correlation – Lorenzo Lorenzi (10:23)
My favourite trade for 2021 is still in the equity space but with a contrarian bias. Markets have been far too generous in 2020 relative to the themes that are in the portfolios, so my idea is to aggressively take some risk off the table, waiting for a decent correction to sell put options over the portfolio teams at lower strikes in order to rebuild the long position at better levels. Premiums of the put options should provide a solid portion of the five percent performance target.
- Among the reasons,
- with respect to the long-term cycle, market looks expensive by many measures.
- Positioning and complacency looks stretched.
- Earnings look stagnant over the last few years, and the new cycle built on technology sub-teams like AI still needs time to be built on solid basis. If climate change actions need to be quickly implemented, there will be more a short-term cost than a medium-term opportunity.
- Finally, leverage is building up in many sectors and with respect to many players. That’s flashing some warning signs for my low-vol, long-term portfolio. Basically, my bet is that market will give me better levels to implement my long-term, long equity position.
(5) Low inflation (selling inflation breakevens) – Dominique Dwor-Frecaut (12:51)
My strongest view for 2021 is sell the ten-year break even because expectations of an acceleration in inflation are simply not supported by the fundamentals. All market-based measures of inflation expectations have been moving up, for instance, break even, ten-year break even that are close to 2.1% from 1.8% at the beginning of the year, and I think the market is going to be disappointed. It’s not going to happen for three reasons.
- First, yes, there has been a big increase in the quantity of money, but it’s an increase in the level rather than the rate of growth of money, and that increase in the level reflects one of, which is savings of most of the relief package for the Coronavirus that was passed early on in the year.
- The second reason is that there is still enormous spare capacity in the economy. If you look at the labour market, which is a key because consumer price inflation is three-quarters services, and services are driven by wages, and wages are driven by labour market slack. Now, if you look at the measure of labour market slack, such as the employment to working age population ratio, it’s down five percent relative to before the pandemic. Now, five percent doesn’t look like a lot, but it’s actually enormous by the scale of that indicator. Even if the Democrats manage to pass additional packages, it’s not in Congress. It’s not going to be enough to eliminate labour market slack and see a resumption of wage growth.
- The third reason why I remain very doubtful that inflation is going to accelerate is that the structural reason for the low-growth, low inflation equilibrium that existed before the pandemic have not gone away. When I talk about a low inflation, low growth equilibrium, I mean the situation as we had before the pandemic where firms say that they want to hire more workers but they don’t raise wages. I believe this reflects two developments.
- On the one hand, weak workers’ bargaining power, which reflects globalization, technology, but also legal and regulatory environment hostile to labour.
- On the other side of the wage bargaining power table, you have employers, who actually have become more concentrated. The US economy has become less competitive. It is a well-documented fact. Employees have fewer employers to choose from. Employers are not competing with one another to beat wages. In fact, in some cases, there is employer collusion. So for all of these reasons, I think market expectation of an acceleration in innovation will be disappointed, and my view is to sell the break evens.
(6) Selling US 20y rates – SN Vaidya (16:47)
My trade is a short and simple view for 2021. I would like to short the US 20-year sector, entry level of 1.65% with a target of two and a quarter percent and stop at 1.4%.
- Nominal yields are kept low by the Fed on the back of weak economy with short-term interest rates at zero and expected to remain here for a few years. The key price action will be in the belly of the curve in 2021.
- Fixed income markets clearly indicate that market participants expect inflation risks to rise on back of both aggressive central bank policy action and the Treasury’s supply to finance the COVID-related spending. Democrats coming into power further increases the chances of higher infrastructure-related spending.
- This has pushed the medium and long-term real views into deep negative territory, 10 years at negative 1% and 30 years at negative 0.4%.
- One would obviously expect higher nominal yields to track inflation expectations, but the key headwind is some form of yield curve control (YCC) by the Fed. Most central banks across DM have missed their inflation targets, which further reduces higher inflation expectations getting priced in.
- Drawing parallels from the Euro market from ‘whatever it takes’ moment from Draghi in 2012 through 2019. We have seen deep long-term negative real views to be short-lived. I would argue that the case in the US is very different to Europe, be it in terms of policy response time or the size of the stimulus itself. As the recovery of real yields to a more neutral zone would be far quicker than the market currently expects.
- Putting these into numbers, the five-year forward five-year and the 10-year forward 10-year real yields in US were around one percent before the previous Fed hikes and the subsequent cuts. The current levels are negative 0.5% and negative 0.2% respectively and very accommodative.
- As a counterargument to the headwinds mentioned above is that the real yields have significant room for sell-off before Fed needs to start worrying about the rates being too restrictive and trigger yield curve controls. Under the consideration is the currency angle. The dollar index has dropped over 10% from the panic March levels. Most experts believe this trend to continue in the near future as long as short-term rates remain close to zero. We might argue the cryptocoin’s price action in many ways, but the key need to hedge the dollar exposure continues.
(7) Buying GBP/USD – Eric Zijdenbos: (19:36)
It’s an idea that I’ve been running for the bigger part of the last quarter, and it was based principally on the idea that I was pretty certain that at some stage we were going to get a deal done. A deal is better than no deal, and a lot of people are still concerned about the idea of a no deal, and I thought that Sterling was cheap.
- Now, looking at the year ahead, I still think that here at 1.36 to 1.37, I still think there is enough room for cable to move a lot higher. I think we’re talking 1.45, maybe higher.
- In any case, obviously, in cable you’re taking a dollar trade on as well. Now, the weak dollar momentum is helping, and I think that that could accelerate quite strongly later in the year. And very briefly, the question on the table is very much the if, as, and when we get inflation, and I really think it’s a matter of when, not so much of if. Is the Fed going to tolerate higher term rates, a steeper yield curve, or is it going to put caps in place? If it will do that, I think the dollar is going to go down another 20, 30% very quickly, and that will obviously facilitate a trade.
- So the reason I’m looking at this cable position and I’m looking to add to it and using leverage through options is principally technically, and I think looking at the long-term chart, it’s very simple to see where we are. 2007, you’ll find a peak of around 2.11. Then in 2014, we have another peak at around 1.72. You draw a trend line down, you start to see the trend line coming in right now at about 1.40.
- And last year February, we were starting to make the first attempt to try and take out that level, but, obviously, then we had the pandemic and a geo-shock and instead of going up, cable tested 1.15, which actually formed a double bottom at the same time.
- So we’ve recovered all the way from 1.15 to nearly 1.37, and I think that this trend line is now drawing like a magnet. We’re seeing profound dollar weakness elsewhere, and bar a repetition of a geo-shock of some kind, I think we’re definitely in for a test of that trend line and a follow-through in acceleration once we break.
- The reasons I’m bullish on cable, I don’t think anyone fundamentally really likes cable or sterling, but I do think people have been underweight for a long period of time. I think you’re just going to get a mechanical reaction to reduce those under weights, so to neutralize the under weights. I think that’s the first order.
- A third reason is Europe, and this has always been on my mind. Effectively, Europe only has three liquid currencies, sterling, Swiss francs, and Euro. So if you want to be in Europe, for a long time, you’ve only had Euros to go to and Swiss franc to some extent, but that trade is obviously made less attractive by deep negative interest rates and intervention by the Swiss National Bank. And maybe from now on, we’ve got a bit more room to play around in European currency space in cable, in sterling. So all these factors together, I still think we have room to the upside. I’m looking for, first of all, test at 1.40 and then a follow-through to 1.45, 1.46, and from there on, it remains to be seen.
- There are various factors brewing in the background. One of them I just want to mention as a last remark. You may have heard about the BNO passports, the British Nationals Overseas passports, which have been handed out to a number of people but not least to Hong Kong citizens who may want to become residents in the UK. Apparently, three million Hong Kong citizens have already taken up the BNO passports. As of this year, they are able to move to the UK. Surely, not three million people are coming, but they may have taken out an insurance policy. But it could be a big number. It could well be a big number, and the BNO passport provides for settlement rights but also very clearly stipulates that you’re not entitled to any social security benefits. So they’re hoping to get affluent people, and this is just an example of the sort of FDI dynamics that could come into play.
- It may well be by design this repositioning of the United Kingdom going forward, its position in the world relative to more traditionally its position more aligned with Europe. However, we slice and dice it, it looks to me like there is momentum in this trade and there is some logic in this trade as well. I think that there is scope for a big move up in cable in particular, but I also think that Euro sterling will come down to the low 80s or even 70 handles by the end of this year. So there’s what I’m positioning for.
(8) Buying GBP/USD upside options – Arun Sundaram (24:33)
My favourite trade for 2021 is a bullish view on Sterling spot and implied vols. I propose buying a three-month sterling call / dollar put option for a strike of 1.40, expectation to take profit at 1.4350, once exercised. The reason is two-fold.
- On the volatility side, the sterling implied vols had earlier increased in December, and then, decreased again, when Brexit deal was agreed. The vol ref currently stands at 8.5% it has started to increase again, with some big swings expected in the underlying stock market.
- On the spot side, I see continued upside potential in Sterling as we gain more clarity on Brexit. Sterling has breached the previous highs of 1.35, 1.40. And I think it could potentially hit resistance at 1.4350, which was the previous highs during April 2018. On the other hand, what will also support the Sterling rise is continued dollar weakness due to vaccines and rebounding economy as well, right. Trump exit will reduce trade and political tensions, which were previously dollar positive.
- Therefore, I feel the spot and volatility upside potential in sterling will support the three-month Sterling call dollar put option trade, strike at 1.40, for a take profit at 1.4350, once exercised.
(9) Buying FX volatility – Karl Massey (26:18)
My suggestion for this year, 2021, is for trade, who is always popular in terms of its theme, but very rarely is it easy to time this trade. Specifically, I’m talking about foreign exchange volatility, The reason why I think FX vol is going to be useful as a source of returns and maybe just in terms of hedges, so pretty much reducing your losses, is because I think there are multiple reasons for foreign exchange to actually be on the move this year, that weren’t in play last year.
- Now when we get towards the end of COVID events, this is the principle assumption that I have, is that at some point, at the end of H1, we start to see the benefits of seasonality and vaccines. Then, at that point, I think it’s likely we are going to start to see some movement away from central bank support to fiscal support measures.
- And the reason why that’s very important for foreign exchange is that I don’t really, specifically expect any of the central banks to change their policy, but I do think that the different economies are all set in very, very different ways, due to the composition of the economy, and due to policies, and policy errors that they have accumulated over the past 12 months, during the COVID event, and that we are going to see some divergence in policy responses. When we start to see divergence in policy responses, I think we will start to see divergence in foreign exchange, specifically currency, A vs currency B you are going to see divergences between country responses.
- Now, in the past, one of the frustrating things about being a foreign exchange volatility buyer, if that’s your bag, is being that central banks have really, all throughout the world, basically been carrying out the same policy in the same way at almost the same rates. That’s a gross generalization, but it’s fairly accurate. I think that once we move away from central bank support, we will start to see some moves. The reason why that’s especially important in 2021 is that it may have slipped under the radar, but we are going to see the final stages, or supposedly see the final stages in the LIBOR transition process.
- The LIBOR transition process introduces some really important differentials between the major currencies, and therefore major currency pairs. We breakdown from a pre-liable association of interest rates to one set which are based upon secured indices. In other words, high collateral standards at one set of currencies, based upon unsecured, and I think that is going to in itself potentially introduce some uncertainty about collateral quality and forward rate buyers. And that is the sort of uncertainty, I think, which could be added to fiscal uncertainty and fiscal policy uncertainty. And that’s why I think that foreign exchange volatility is going to be in play this year.
- It is not a call on whether I like the dollar or don’t like the Euro or like the pound. It really is to do more about the plumbing of what’s underlying the uncertainty in markets, fiscal uncertainty, and to do with the nature of the liable transition process, which I think is going to be a very significant driver of foreign exchange.
- Now, as to how you do about designing your FX vol trade, I think the most important thing to say is the closer we get to a perception that the COVID event is over, the closer that we get to seeing what is going to go on under the hood of government fiscal policy. As we get towards the end of the year, we get closer and closer to LIBOR transition event, which should be happening by the end of this year. So, for me, the likelihood that you will make money being long FX vol, all things being equal, is in the second half of this year, I think it may all come to pass that you will be able to buy some relatively cheap vol over the course of the first half.
- I wouldn’t be buying and shorter date a vol than one year. Always look about what happens to the roll down on your forward vol curve. So, for me, that probably means that two-year vol or even better, two-year vol, one-year starting, is something that you should be looking for. So that will be my recommendation. Long-dated vol coming out of the first half of 2021. Thank you.
(10) Buying Swedish Krona – Ken Dickson (31:17)
My favourite trade for 2021 is based on a theme that risk assets will continue to move positively, as best expressed through a short Euro long Swedish krona FX four position. There are three clear reasons for a successful positive outcome for the Swedish krona, in my view.
- First of all, the Swedish krona is a high beta Euro and will appreciate further, as the dollar weakens in 2021. A weaker dollar, as it appears, is a reflection of global healing, riskier markets, benefit from increased capital inflows, as risk premiums return back towards historical norms. The Swedish krona has traded within a Euro/Sweden 8 to 10 range for about 83% of the past 30 years. It has traded weaker than this, by Euro/Sweden being above 10, but only around tail events, like the 2008 great financial crisis, and before and during the 2020 pandemic. It’s recovering now. And this trend will continue as the vaccine rollout develops and economic mobility develops globally this year.
- Secondly, relative to the stress in most developed economies during the pandemic, Sweden’s economy looks quite normal. In a bizarre 2020 world of pandemic abnormality, Sweden’s economy remains much closer to historical norms than the rest Europe. Real GDP is likely to have declined by only 4% last year, which is about half of the Euro’s own weakness. And couple of years of steady growth is expected going forward, boosted by an unwind of domestic savings. Moreover, if there any signs of weakness on the horizon, then a 25-year low in Sweden’s debt to GDP ratio will allow fiscal policy to help boost activity.
- Thirdly, and perhaps unusually, the ECB will be more concerned by trends of strength than the Riksbank will be in 2021. The Riksbank eased monetary policy earlier than ECB in the cycle. So the Swedish krona weakened early, ahead of the pandemic. I watched CS fairly strong global economic recovery this year. I don’t really see the Swedish economy will be performing so well or face risk growing so badly that the Riksbank will need to resort to sustain tightening phase, even though the repo rate is no longer negative. But I do expect a greater need for a continuation and the easy monetary and fiscal measures within the Euro area, as I’m much more concerned about our lingering deflationary risk in Europe than I am in Sweden.
- As a result, on the relative basis, I expect the Swedish authorities to be more relaxed currency strength than the ECB. So returns and riskier assets will be good this year, perhaps lower than we have in the bounce from to the end of March, to the end of the year. But I still expect a further 10% return in a short Euro, long Swedish krona, FX forward for 2021. And that would just bring us back to the average of Euro-Sweden trading range since 1993.
(11) Buying Chilean equities – iShares MSCI Chile ETF (ECH) -Alex Schober (34:22):
My favourite trade for 2021 is longing the main Chile country ETF, ECH. The reason why I like this trade is because I believe markets are pricing too much uncertainty regarding the country’s constitutional reform. Keep in mind that fears of a complete makeover in the country’s economic policy framework are way overdone because the constitution needs to be approved by two thirds of constituents before it even goes to a popular referendum.
- Supplementing the main trade, it would behove investors to trade around the noisy constitutional and political votes this year though by implementing a series of straddle options on the peso to capture volatility. Focusing more on Chile’s equity markets, the country’s fundamentals are understated in my view. Copper prices continue to rise, which is causing a stronger economic recovery than expected. And Chile’s vaccination plan is the best in Latin America, at least among the larger markets.
- Assuming that the vaccination plan works and economic reopening can occur faster in Chile than compared to other countries in the region the country’s equity market will be in prime position for out-performance. This is particularly the case, if you consider the portfolio allocations in ECH itself. Banko de Chile, SQM, which is benefiting separately from lithium, Falabella, Cencosud and other banks, most of which are cyclical stocks that are likely going to benefit from the economy reopening. In some, I do like this trade of longing Chile’s ECH ETF because it is moderately out of consensus in the sense that the country’s political uncertainty is overstated, while the country’s economic fundamentals are still solid. A major region that has no shortage of stay away countries, Chile looks to be a standout country, yet again.
(12) Buying Turkey – Phillip Birkan: (36:17)
My trade idea for 2021 being long Turkey, both long Turkish Lira, from a carry perspective, as well as a price appreciation and being long Turkish equities. Turkey has had a turbulent time since the summer of 2018. And a lot of negativity is priced into Turkish assets and its currency. It has been a neglected market for many foreign investors. However, I believe that given the change in the CBRT, as well as in the Ministry of Finance, the government indicating more orthodoxy in its economic reforms and showing the intent to strengthen the rule of law, to attract foreign investors, offers Turkey a good risk-reward investment opportunity.
- As well as having a lot of recovery potential, the CBRT has stated that its upmost priority is to tackle inflation and ensure price stability, which is 180 degree U-turn from the previous economic agenda, which was increase credit growth, reduce rates, and increase inflation. I think Turkey will aggressively continue to tight until the summer or even beyond summer, but once tourism starts picking up and the lira begins to strengthen, they will start to ease. So probably around the fall of 2021. So I think this trade idea encompasses a time period of six months, and in contrast, many EM markets, the Turkish currency and Turkish equities have not really benefited from this broad global recovery. And therefore, it has much more catch up to play.
- Another element that indicates a Turkish recovery is the overall interest it has received for its bonds offerings, both in its sovereign level and in the local level, for example, for the municipality of Istanbul. When we look, for example, at the five-year CDS, it has come down from 500 basis points to 300 basis points, thus showing the overall reduction in the risk premium. However, the currency has not rallied to that extent. I do believe that as the tightening of monetary policy occurs, as well as the vaccine rollout gains momentum and global tourism starts recovering should increase appetite for Turkish assets.
- Thus, this should improve Turkish current account and the rating agency’s perspective on Turkish debt. However, the capital account situation does remain challenging, particularly after or during the pandemic, which has led to a large reserve depletion portfolio outflows, and thus, a widening current account. However, I believe that the policy tightening will be supportive of portfolio flows, and thus, be supportive for Turkish assets and its currencies.
- However, headwinds or possible tail risks do exist. The Biden administration might impose sanctions on Turkey, due to the purchase of the S-400 and the defence system. However, I believe that is very unlikely, the next six months, given the priorities the Biden administration faces at that moment. Also, don’t believe that the EU will impose any sanctions on Turkey, as they would not want to escalate tensions and create another refugee influx or some big drama in the region.
- The possibility of CBRT changing its direction and beginning to ease rapidly is always a possibility in Turkey, but I think this time it is very unlikely, as the CBRT wants to increase its credibility.
- The escalating conflict in Libya is always a possible tail risk scenario for Turkey as many global actors are involved in that area. What would be a big tail risk for Turkey is the mutation of a virus, where the vaccines would not work, which would thus, again, shut all tourism to Turkey.
- And finally, what I think is still very unlikely, but always possible in Turkey, is that a new election, which would cause a lot of stress and chaos in the country, but I also believe that is very unlikely, as the elections planned to be held in 2023.
- So my suggestion or trade idea is to be long Turkish lira and be long Turkish assets. Given the world we live in for the hunt for yield, as well as the vaccine rollout gaining momentum in the next couple of months should benefit tourism countries, such as Turkey, and boost Turkish assets. As well as the CRBT indicating that their utmost priority is to tackle inflation should offer Turkey a good risk-reward situation.
Bilal Hafeez is the CEO and Editor of Macro Hive. He spent over twenty years doing research at big banks – JPMorgan, Deutsche Bank, and Nomura, where he had various “Global Head” roles and did FX, rates and cross-markets research.
(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)