US embassy cable - 04ANKARA881

UNCLAS SECTION 01 OF 02 ANKARA 000881 
 
SIPDIS 
 
 
SENSITIVE 
 
 
STATE FOR EB/IFD, EUR/SE 
TREASURY FOR OASIA - JLEICHTER AND MMILLS 
NSC FOR BRYZA AND MCKIBBEN 
 
 
E.O. 12958: N/A 
TAGS: EFIN, ECON, TU 
SUBJECT: TURKISH MARKETS RALLY ON HOPES FOR A CYPRUS 
SOLUTION 
 
 
1. (U) Summary: Turkish markets, especially the stock 
exchange, have soared this week on the encouraging news out 
of New York regarding Cyprus.  Turkish markets attach 
particular importance to the Cyprus issue because it is 
linked to Turkey's EU accession prospects.  As of mid-day 
Friday, Turkish equity markets had risen 13 percent this 
week.  End Summary. 
 
 
Markets Soar... 
------------ 
 
 
2. (Sbu) Turkish financial markets have soared this week on 
the encouraging news on the Cyprus discussions at the U.N. 
As of mid-day Friday, the IMKB 100 stock exchange index had 
risen 13 percent this week, from 16,965.83 at last Friday's 
close to 19,098.69 in mid-day trading Friday. The 
lira--already strong in recent weeks--has also resumed its 
appreciation, strengthening from TL 1.334 million at last 
Friday's close to TL 1.317 at mid-day Friday, the 13th.  The 
Euro rally against the dollar exaggerates the lira/dollar 
appreciation, but even against the Euro, the lira has risen 
slightly from  TL 1.696 to TL 1.691 during the same period. 
In the government securities market, Turkish Eurobonds have 
rallied but the benchmark domestic government bond's interest 
rate has eased only modestly from 24.76 percent at last 
Friday's close to 24.27 percent mid-day on the 13th. 
 
 
...On Better-than-Expected news on Cyprus Talks 
--------------------------------------------- -- 
 
 
3. (Sbu) Turkish markets have a tendency both to be volatile 
and to pay particular heed to geo-political developments, 
viewing the extent of international (EU, U.S., IFI) support 
as critical to Turkey's financial prospects.  In the case of 
the Cyprus negotiations, the link to Turkey's economic and 
financial health is particularly close because EU leaders 
have stated that a Cyprus solution--while not an explicit 
condition--will facilitate Turkey getting a date for EU 
accession negotiations.  What was particularly cheering for 
markets about this week's developments was: a) the New York 
talks went better than expected, and b) the Turkish side was 
seen as less obstructionist than anticipated.  Note that 
Istanbul analysts have told econoffs that the market 
expectation was either for no progress on Cyprus or very 
little. 
 
 
Stock market rises far more than Fixed Income Market 
--------------------------------------------- ------- 
 
 
4. (Sbu) Though the fixed income market benefited from the 
rally, the rise was far more pronounced in equities.  Post 
contacts divide into two schools of thought on this.  One 
perennially skeptical long-time Istanbul market-watcher 
attributed the dramatic rise to manipulation by the handful 
of market-makers in stocks.  According to this contact, this 
small group tried to spark a rally in early January but had 
to retreat, and is now taking advantage of the good news on 
Cyprus to run the market beyond where valuations would 
justify.  To an extent, this tracks with economist Guven 
Sak's comment to Econcouns that the U.S. war in Iraq and 
prospects for EU accession have meant that Turkish financial 
markets no longer reflect economic fundamentals, but are 
being driven in part by moral hazard.  Central Bank Governor 
Serdengecti has also made similar comments. 
 
 
5. (Sbu) The other school of thought is that prospects for 
Turkish financial markets are strong through at least this 
summer, and that the preferred "Turkey play" is equities. 
Both a visiting American hedge fund investor and an Istanbul 
financial analyst have told econoff that equities are 
preferable because they hold more upside potential whereas 
debt instruments can't appreciate too much further in the 
near term.  The financial analyst said the most optimistic 
scenario would only have the benchmark interest rate falling 
to around 20 percent in the next couple of months, whereas 
stocks could rise another 15 percent or so. 
 
 
6. (Sbu) Interest rates in the domestic fixed income market 
may also be bumping up against the floor created by Central 
Bank rates.  Several analysts and officials have told us the 
only way government securities are able to trade so far below 
the Central Bank's 27 percent overnight rate is that 
banks--the primary holders of government securities--are 
betting on rate cuts in the coming months; otherwise they 
will have a "negative carry," i.e. their funding costs will 
exceed the interest earned.  The markets began expecting a 
Central Bank rate cut in November, however, the Central Bank 
has been reluctant to cut rates in the face of doubts about 
the GOT's commitment to fiscal restraint.  Last week, faced 
with better-than-expected inflation numbers for January, the 
Central Bank finally announced a grudging 200-basis point cut 
but warned about the need for fiscal restraint.  Many 
analysts expect further cuts if and when the IMF and GOT 
reach agreement on the Seventh Review and a package of fiscal 
measures to cover the projected 2004 shortfall. 
 
 
7. (Sbu) It was not clear how much of the rally stemmed from 
foreign buying, though foreign inflows were certainly a 
factor.  A central bank official told econ specialist at 
least $250 million flowed into the Turkish market this week, 
particularly on Tuesday and Wednesday.  Given that the lira 
strengthened despite strong demand for foreign exchange from 
Turkish oil importers BOTAS and TUPRAS, the central bank 
official suspects there may have been as much as $500 million 
coming into Turkish lira this week. 
 
 
Non-Cyprus news mixed this week: 
------------------------------- 
 
 
8. (Sbu) Aside from Cyprus, other news this week would 
normally have been a negative for the markets.  One of the 
few privatization deals that looked like it might actually go 
through--the sale of the Tupras oil refinery--began to look 
dicier this week.  The minority shareholders in Tatneft, the 
Russian oil company whose German-based affiliate Efremov 
Kautschuk Gmbh leads the consortium buying Tupras, have 
threatened to sue Tatneft, citing financial problems arising 
from the Tupras purchase.  Separately, Central Bank Vice 
Governor Sukru Binay recently pointed out to econoffs that 
Tatneft's local partner, the Zorlu Group, has companies that 
are de facto bankrupt participants in the World 
Bank-sponsored "Istanbul Approach" debt workout process. 
Though the Tupras sale is still expected to go through, 
worries have increased over the financial wherewithal of the 
buyers. 
 
 
9. (Sbu) Also negative for Turkish markets was the news that 
the influential U.S. investment fund, CALPERS, announced that 
it had cut Turkey, along with Argentina and Peru, from its 
list of emerging markets in which it would invest.  According 
to CALPERS methodology, Turkey scored poorly on human rights 
and accounting standards, among other criteria. 
10. (Sbu) One bit of good news for markets was the--still 
unconfirmed--report that the IMF Seventh Review mission would 
return to Turkey next week.  Since the press report of the 
IMF return first appeared late Thursday, after the big 
Wednesday-Thursday rally, this news was too late to be a 
factor. 
 
 
EDELMAN