Jump in lira FX swap rates jogs memories of spring squeeze

By Marc Jones

LONDON (Reuters) – Turkish lira markets suffered a flashback of their suffocating March squeeze on Wednesday, as authorities moved to keep a lid on volatility after a week of U.S. sanctions and legal charges.

The cost of borrowing lira using one-week FX swaps tested two-and-a-half-month highs going as high as 20.25% <tryccs1wz=r>, with traders reporting – just as they did in March – that some local banks were restricting the supply of lira to overseas counterparts.</tryccs1wz=r>

Moves were nowhere near as extreme as in March, however. The squeeze back then briefly sent the cost of lira borrowing soaring past 1,000%. [nL8N21M1HQ] This time there didn’t seem to be a blanket freeze from domestic Turkish banks, and swap rates had dropped to 17.3% as trading wound down for the day.

“It reads like a warning that if the lira sells off again that the liquidity could be squeezed,” said TD Securities emerging market strategist Izidor Flajsman.

The lira is the worst-performing currency in the world in October, having fallen almost 5% as a Turkish military offensive on U.S.-allied Kurdish fighters in Syria sparked sanctions and international criticism. [nL5N26Z3Z1][nL5N26Z57N]

On Tuesday, U.S. prosecutors charged Turkish state lender Halkbank (IS:HALKB) with taking part in a multibillion-dollar scheme to evade U.S. sanctions on Iran. In response, the bank’s shares and bonds plunged. [nL5N2711KO]

Investors often use “offshore” currency and swap markets because they are typically freer of central bank influence than domestic markets, and international institutions generally find it easier to get credit lines with bigger banks.

But they are still vulnerable to the ebb and flow of local currency liquidity. And this – as March showed – is where authorities do retain an element of control.

Just by shutting off its funding auctions for a while and maybe doing a bit of behind-the-scenes leaning on local lenders, the central bank can create a spike in swap rates and briefly seize the market.

“We see that Turkish banks’ tendency to supply lira to the swap market has fallen below the legal limit in recent days,” said one senior Turkish market banker who requested anonymity.

At the end of March, lira supply to this market by Turkish banks was reduced to zero, excluding outstanding transactions, the banker said. “We can’t say today that it has been reduced to zero, but we see a serious decline.”

Foreign banks and investors had most likely put in measures to protect themselves from those kind of actions after the stresses earlier in the year, the banker added.

Turkey’s BDDK regulator did not immediately comment on the lira swap market moves.


(GRAPHIC – Turkey lira offshore market: https://fingfx.thomsonreuters.com/gfx/mkt/12/7459/7390/Turkey%20lira%20offshore%20market.png)