Contrarian alert: Keep a beady eye on Turkey ETFs!

Aug 5th, 2013 | By | Category: Equities

By David Stevenson –

This week I have a small piece of mid-summer madness. Now that all those sensible people have quite rightly vanished from the office, I’m fairly sure that only the most clinically insane are left staring at their computers (like me), hunting down new investment ideas.

Contrarian alert: Keep a beady eye on Turkey ETFs!

Keep a beady eye on Turkey ETFs, says David Stevenson.

If you are indeed one of these bemused loners, may I suggest a very contrarian call – Turkish equities?!

Now before you pick up the phone and call for my own personal ambulance, let me repeat all the very sensible, consensus-driven reasons for NOT buying anything with a Turkish flag on it!

In no particular order of importance I’d list:

  • The fact that it’s an emerging market (EM), which means that it’s hugely unpopular at the moment.
  • Unfortunately, it is also a major supplier of exports into the eurozone. Again I don’t think any of us need reminding why that’s a nasty place to be at the moment.
  • Turkish equities are also a classic high-beta play for the EM sector generally, which means that as soon as investors get the teensiest bit scared of risk, they sell Turkish stocks pronto.
  • Turkey’s current account situation is dreadful and getting worse by the day. Crucially, the country has become woefully over dependent on importing foreign capital, especially the hot, liquid variety.
  • Turkey is also ruled by a man who clearly has a tin ear for opponents and is beginning to develop strong Putin-like tendencies vis-à-vis demonstrators.
  • The Turkish lira is weakening and inflation increasing.

This short summary doesn’t in fact do full justice to the bears’ argument – there are even more layers to this particular investment onion, including deep-seated issues with the Kurdish minority, trouble in Syria and over reliance on a few big, family or state-owned banks.

I think we can safely say, therefore, that an investment at this moment in time in risky Turkish equities would be…well…very, very risky. So, why my midsummer maddening suggestion? Why should investors start to pay closer attention to the bridge between Europe and Asia?

Put simply Turkey is not your typical EM country. I strongly believe that its long-term trajectory of growth and societal transformation puts it on a completely path to that of any of the BRICs – in fact I’d go so far as to say that if it played its cards right (not a guarantee with our Turkish friends) it could end up another Poland for south eastern Europe.

Oh and before any smart Alec rushes off an angry email saying “Ah but Mr Stevenson, just because a country has huge potential, that doesn’t mean that its shares will do well”…remember one simple fact. Buy any Turkish equity fund and you are in fact buying a massive dose of Turkish banks such as Garanti and Akbank – both of which are almost pure proxies for domestic consumer and industrial growth.

For me there are two very strong set of medium-term and long-term positive drivers.

Positive drivers

Let me break a brutal truth to all those readers who believe in financial rectitude and investing in quality stuff, in companies we’ve all heard about. As sure as night follows day, at some point late in 2014, both emerging markets and the eurozone will finally find favour amongst investors scared witless by the prices being asked for supposedly safe US equities.

When this unthinkable event does finally take place – and I am 90% convinced it will come to pass – Turkish equities will suddenly rush back into favour. Until then, of course, the prognosis is probably grim. In fact, I’m honest enough to concede that sentiment towards Turkish equities could turn positively cataclysmic over the next six to nine months, largely because a general election is due next year. The current, excellent, incumbent as president would probably like to stay on in the job but there’s the small problem of the current prime minister, who’d also really rather like that job. Sadly for the prime minister, we have discovered in recent months that a great deal of the westernised elite would rather barbecue their bodily parts than have Erdogan (the PM) as president. So I can confidently predict lashings of political intrigue, panicky investors and volatile markets. In plain language, Turkish equities will get a lot cheaper before my positive drivers kick in. Your moment will come when blood is on the financial floor (let’s hope there’s no blood on the streets as well) and everyone has capitulated.

But 2014 will bring with it huge change and as sentiment turns towards Turkey, suddenly everyone will ignore the negatives and focus on the positives. And the good news here is that there are many more profoundly good reasons for buying into Turkish equities.

Again in no particular order of importance, I would list

  • An economy that is light years ahead of China and the other BRIC countries in restructuring. In particular, its banks have been cleaned up, inflation has been pushed down (though it keeps popping back up again), and the consumer sector is vibrant.
  • Turkish corporate governance – though poor – is light years ahead of any comparable BRIC country, and every year brings new improvements. This mirrors the country’s slow but steady drift towards a democratic, rule-governed society. It’s not there yet, but progress in the last decade has been truly heroic.
  • A fast-growing middle class (much of it pious and based in the Anatolian hinterland) is lapping up the delights of a consumer sector, with increasing house prices, more jobs, a growing mortgage sector, improving consumer credit and decent working conditions.
  • Turkey might even crawl towards a solution for its perennial ‘problems’ i.e. Cyprus, the Kurds, and the Greeks.
  • Last but by no means least, as an investor many of the companies in the top 10 of large-cap equities actually look quite attractive in valuation terms. Look down the list of most BRIC countries and I challenge you not squirm with horror and distaste.

Exchange-Traded Funds

If you do buy into my contrarian logic, which funds give you access to the Turkish market? The good news here is that your choice is simple – there are no respected active mutual funds that I am aware of at the moment on the UK market that might tempt you into going down the actively managed route. You essentially have no other choice, therefore, but to buy an exchange-traded fund (ETF). This is no bad thing, as you know, ETFs are usually at the top of my list of fund recommendations anyway.

Regretfully, your choice isn’t overwhelming but that’s to be expected with a relatively minor EM country (i.e. non BRIC member). Indeed, there are just three London-listed ETFs, from iShares, UBS and HSBC, all of which track the same MSCI Turkey Index, and two European-listed ETFs, from Lyxor and RBS, tracking the Dow Jones Turkey Titans 20 Index. US-based investors have just one choice, form iShares and linked to the MSCI Turkey.

The two indices are actually relatively similar in terms of constituents. The MSCI Turkey Index is a float-adjusted market capitalisation-weighted index designed to measure the performance of the large and mid-cap segments of the Turkish market. With 24 constituents, the index covers about 85% of the equity universe in Turkey. The Dow Jones Turkey Titans 20 Index is designed to represent the 20 largest and most liquid stocks traded in Turkey. Constituents are selected based on rankings by float-adjusted market capitalisation, subject to a 10% cap, and average trading volume.

Looking at the UK/European domiciled funds, the largest in terms of assets under management is from iShares (the grand daddy of the ETF sector) with £200m, followed by the Lyxor fund with £184m. The HSBC, UBS and RBS funds each have around £10m to £20m in AUM. The UBS, HSBC and RBS funds are the cheapest in terms of Total Expense Ratio (TER) at 0.60%, followed by the Lyxor fund at 0.65% and finally the iShares fund at 0.74%. The London-listed MSCI Turkey-linked funds are all physically replicated, whereas the two European-listed DJ-linked funds are swap-based.

The consensus money would probably favour the long-established iShares fund but personally I don’t see why you need to pay an extra 14 basis points just because it has the BlackRock name on the tin (granted this fund may be a little more liquid in terms of on-exchange volumes). I’d lean towards the cheaper UBS or HSBC funds.

UBS-ETF MSCI Turkey (UB36)
iShares MSCI Turkey UCITS ETF (ITKY) (LSE)
RBS Market Access Dow Jones Turkey Titans 20 Index ETF (M9SE)
Lyxor ETF Lyxor ETF DJ Turkey Titans 20 (TUR)
(Euronext Paris)

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