International Investments: Turkish Bath or Profit?

By Gary Scott

Yesterday’s message created a short list of emerging currencies that currently offer high interest rates (near or over 10%). The list includes Argentina, Brazil, Indonesia, Pakistan, Russia, Turkey and Venezuela. I also mentioned that I just invested 5% of my liquid portfolio in the Turkish lira (called the TRY).

However last week the TRY reached its lowest level ever and Jyske Bank warned that it may weaken further. Looks like my investment is taking a Turkish Bath! So it may seem odd that I am thinking about investing more. Here’s why.

First, let’s look at the bad points of investing in any emerging currency now. This is a time of turmoil for all emerging currencies. Turkey has been hit especially hard, but any investor who gets in any emerging currency right now may see their investment drop.

The lira really dropped, 16% this month (versus the euro). Turkish equities fell 27.7% in US dollar terms since peaking March 1, 2006.

There are numerous short term reasons for this fall, political tension between the conservative (and moderately Islamic) government and the secular state apparatus headed by the president being one. Bad timing on the part of Turkish central bank was not great either. They lowered interest rates and said inflation was expected to drop, just before inflation showed a strong rise in April.

Plus there has been a growing current-account deficit. Oil-price rises pushed up the deficit by 1.8% of GDP to 6.3%.

All this has come together just as there was rising volatility in all emerging currency markets. Investors are worried that there will be further money tightening and increased interest rates in the US and Japan. This will make it harder to borrow dollars and yen to invest in emerging currencies. The tighter money could also slow economics in the West and thus reduce exports from the emerging countries.

Now the good. First, emerging countries are not going to disappear. The West cannot afford to let the people of the world get poorer any longer. The emergence of the third world is the driving force of the global economy now (not the building of the US). The struggle between the rich and the poor is now one of mankind’s greatest concerns…and opportunities.

Second, look at Turkey’s economic fundamentals.

Compare GDP growth and reserves among the high interest rate emerging currencies.

Turkey is solid, number two (or three) in every category.

This means that this economic Turkish bath creates opportunity. We have a crash in the face of economic indicators that look good.

This is enough to make savvy investors start to drool, but we can also count on convergence. Turkey wants to join the European Union which means that it must over a period of time get its economic fundamentals to converge with those of the EU. This is not going to happen overnight. There will be ups and downs in the process. There will be worries that Turkey won’t join the EU at all. But I am betting they will.

Turkey has already embarked and continues with considerable economic reform towards this goal. The country still has good growth resulting from real (not government induced) private demand and investment.

Turkey’s international reserves correspond to 30.5% of the country’s total debt and there is a high foreign direct investment that is this year expected to cover more than 35% of the current-account deficit this year.

The share of public debt denominated in foreign currencies has been reduced from 35.6% in 2001 to 14.9% in 2005.

Turkey is facing major challenges, but despite the recent weakening, the country is still the most interesting convergence case in Eastern.

Turkey and the IMF completed negotiations on the review of the reform process which is a condition for further support from the fund. Under the agreement, Turkey has been guaranteed a loan worth USD 1.9bn in July but in return the country must tighten government spending by USD 3bn (approx. 0.8% of GDP) in this budget year. The savings are to ensure that Turkey keeps the fiscal policy on the right track.

All emerging markets are dropping at the moment. My speculation in the TRY is that the correction is overdone and Turkey especially is overdone.

Turkey’s economic fundamentals and the overall importance of emerging markets leads me to believe that buying now will lead to extra profits.

There is one other factor that I especially like about Turkey and why I believe it will be brought into the EU. This factor led me to recommend Turkey as a place to invest nearly 20 years ago, well before its market exploded upwards.

One of the other huge challenges of mankind is resolving differences between Christianity and Islam. Turkey is at the crossroads of this conflict, half Arabic and half European in many ways. Turkey has developed a social structure that the Western World desires to evolve, a Moslem country with a secular government and capitalistic democracy. The West cannot let turkey fail.

Add this all together and the dropping TRY seems like an opportunity to me, especially since I get paid 13+% to take the risk.

But then I have been investing globally for decades. Keep in mind this is still only 5% of my portfolio, an amount I could easily afford to lose. Turkey is not a place for everyone to invest and especially right now. Those who invest there now may see their investment drop so be prepared for this if you do. In the end though my guess is they will find that themselves bathing in profit.

On the subject of currencies a reader recently wrote:

“Mr. Scott, First, let me say how much I enjoy reading your e-mails and appreciate the tremendous amount of effort you have made to share your knowledge with anyone who is interested. I hope doing this has been rewarding to you as well - I suspect it has.

“I have been reading your e-mails for about 4 months now and while I have invested in US equities and International Mutual Funds, I have never invested in currencies, except for money market and certificates of deposit in my IRA (Vanguard/Fidelity) and my local bank. In other words, I have no experience with currencies. How can we invest in emerging currencies? I'm not interested in a specific currency per se, just how a guy in Tulsa, Oklahoma with three kids would go about making such investments. Thanks again for your time, both in your response and in the information you so generously provide.”

My reply can help many realize that they already invest in currencies and just do not realize this because your mutual funds are denominated in US dollars.

Thanks for getting in touch. You are invested in currencies if you are invested in International Mutual Funds. If, for a theoretical example, you have a dollar denominated Vanguard Fund that invests in international markets and that fund is invested in Germany, England and China, then you are invested in euro, pounds and yuan.

If the dollar falls versus these currencies the dollar value per unit of the fund will rise equal to the US dollar’s fall.

For many investors this is the best way to invest in other currencies, and you can use our daily messages to get a feel for what is going on. Then watch what investments are in the funds you hold. This will give you the ability to choose funds more accurately. Regards, Gary

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Learn about investing in emerging currencies, gold, silver, Ecuador, import-export, overseas markets and more. Join Merri and me at our September 15-16-17, 2006 International Business and Investing Made EZ course in North Carolina. Review where to invest and do business now and learn which markets and currencies may be strong in the year ahead. Our May course was overbooked and the September session is already filling up fast. Our free accommodations are reserved on a first come first served basis so do not delay! Go to www.garyascott.com/catalog/ibeznc.html