Turkey has the second largest current account deficit as a percent of GDP in the major EM economies and also the second worst basic balance (current account plus FDI).

Being heavily reliant on fickle portfolio and cross-border banking flows makes the lira susceptible to any loss of investor confidence.

The direct spill over effects to the rest of EM are very limited and barring further deterioration in the political landscape currencies should normalise quickly and resume being driven by broader movements in sentiment and the dollar.

As long as political stability is maintained, the TRY should regain some, but not all, of its losses as risk premium will be higher than otherwise.

Markets were rallying around the world on speculation global monetary policy was going to remain loose, there was a lull in the country’s fractious politics and President Recep Tayyip Erdogan’s government was moving to normalize relations with Russia and Israel.

We do not believe TRY would trade back below 2.75 levels on the lower side. The inflation differentials alone would take fair value to well towards 2.90 and above. Moreover, the persistent support from the EU on the refugee crisis may wane given Erdogan’s support for groups fighting Kurds across the border. We, therefore, project USD/TRY to settle at about 3.10 by end Q4’ 2016. 

We had advocated the hedging device on June 22nd in order to keep UNSDTRY’s upswings in check and we’re still firm on that call on hedging grounds, it’s been working as per our anticipation so far.

For further reading on that call please follow below weblink:

http://www.econotimes.com/FxWirePro-FX-option-positioning-of-USD-TRY-on-Brexit-win-scenario-225142