Non-Financial Sector Debt: Impending Risks

Previously we noted that Turkey debt will draw attention as global monetary conditions were set to be less friendly to developing economies than it had been in the past. Following the Trump win, we have seen a bond rout in the United States, resulting in higher yields that simultaneously putting emerging market assets to the fire.

We think it is time to place some emphasis on Turkish corporates debt as pundits tend to conceive about increasing financing costs of those businesses which would ultimately cause a protracted earnings recession.


Turkish non-financial companies’ open FX position rose to $212.8 billion (+1.2% m/m, +17% y/y) in September according to the data released by Turkish central bank. This has been intensely pointed by the critics that each TRY0.01 deprecation against the US dollar would accretive to financing expenses TRY2.1 billion, give or take. Our prospect is for increased inflationary pressure.


FX-denominated liabilities of Turkish non-financials have been steadily rising since late 2010 when the central banks of developed economies introduced ZIRP world. Eased global monetary policy conditions paved the way for Turkish corporates since domestic savings are enough to finance Turkey’s economic growth. By this one could assert that one of the pillars of Turkey’s economic success has been the private debt. Assets, on the other hand, have also risen, been more volatile, but more importantly on the decline over the past several months, which might be explaining the weakness in Turkish lira. Note that FX assets were $98.6 billion in September (-5.1% y/y) and liabilities climbed to $311.4 billion (+9% y/y).


The crucial point of this article is offer here. As visualized in the chart above, companies’ investments abroad are on the rise while their FX deposits as well as export receivables are declining. We find Turkish corporates growing their investments abroad noteworthy. On a separate note, deposits, export receivables, and DIAs were $67.1 billion, $10.6 billion and $20.7 billion, and of total assets, representing 68%, 10.8% and 21%, respectively.


Finally, on the liabilities side, it’s loans, the loans, nothing but the loans. Accounting for 90% of total liabilities, Turkey’s real sector has a payable book of $280 billion to the banks, while import payables have been clearly declining mostly due to slowing domestic demand for imported goods. FX loans growth around 9% is also alarming given the volatility in exchange rates.

Nevertheless, the data suggests that there is no sign of a maturity mismatch as 79% (25%) of assets (liabilities) is set to mature in one-year period, which means Turkey’s corporates only have a short-term net FX open position of $1.3 billion. However, it has noted by many economists that a significant part of the long-term liabilities is typical one-year-plus-several-days debt which papers over the cracks.

Turkey: Debt on the Radar Again

In a widely expected and almost inevitable move, Moody’s downgraded Turkey’s sovereign rating by one notch to Ba1 (junk level) on Friday, quoting the increase in the risks related the country’s external funding requirements and the weakening in previously supportive credit fundamentals, particularly growth and institutional strength as the driver of the decision. Turkey is now only rated at IG only by Fitch, who already lowered the outlook on its rating to negative last month.

Rating downgrade marked the end of three years of EMBIG IG conclusion of Turkey which represented 7.4% of the EMBIGD IG. We will see more forced selling by the pension funds at the remainder of this year, however, based on experience, losing IG is not capable of being a market driver in the long-run, and still, global policy remains highly accommodative, keeping an adjustment a long way off. On the other hand, we do not believe that Turkey would regain its IG anytime soon. We are also of opinion that we are in the initial phase of a downgrade cycle in emerging economies as we expect to see cuts in South Africa, Philippines.

Not surprisingly, the decision will bring Turkey’s debt on the radar, again, which, in fact, has been the weak link of the economy. Turkey’s debt has been rising rapidly and now stands at more than 120% of GDP. In particular, the corporate sector is really concerning where debt has risen by $315 billion since 2007, or by more than 40 ppts of GDP. The corporate sector is where concerns lie as public sector debt is not the issue. The government managed to de-lever through this period while non-financial firms levered up rapid in the post-financial crisis period and borrowed heavily in hard currency, creating a large short-FX position. Also, when compared to the CEEMEA peers, Turkey cannot be considered as an under-levered economy.

Turning into banks, fortunately, Turkish lenders calculate risk-weighted assets in accordance with the ratings that Fitch provide who still rates Turkey at IG. But, another rating downgrade is also very likely there, which eventually increase risk weighted assets leading higher capital burden. Turkish banks will also face higher cost of external funding at around 40-60 bps which would also hit profitability systemwide.

But we’d like to put some emphasis on Turkish banks’ FX-denominated asset-liability management. According to the data released by the official regulator, Turkish banks have a net FX position deficit of $11.5 billion which is closed by derivatives. Compared to the deficit of $45 billion recorded in late 2014, the recent figure seems manageable. Thus, a FX mismatch for banks seems quite unlikely unless…


Still one big question remains as to how bank allocated their FX assets. The chart below shows that the share of loans increased from 58% to 73% in six years following the financial crisis, also demonstrates the funding source of Turkish corporates where the real concerns lies related to FX liabilities.


So the sentence left unfinished would end with worries about the asset quality. Turkish bank entered a period of deleveraging but NPL generation has still been strong, more than doubling the loan growth.

On the macroeconomic front, more specifically on the implications for CBRT’s monetary policy, we still continuation of rate cuts of 25 bps both on upper and lower parameters of the interest rate corridor which would end up with a symmetrical rate base (7%-7.5%-8%). This, we believe, should be the end of normalization process and easing cycle. In order to keep growth high, CBRT will use other tools such as RRR cuts. Also, some fiscal easing may be in place to support the economic activity.