The Turkish lira continued its strong bullish trend and reached a record high this week even as the US dollar index (DXY) tumbled. The USD/TRY surged to a high of 33.53 on Wednesday, 15% higher than where it was in January.
Turkish inflation slips
The USD/TRY pair rallied after a positive inflation read from Turkey. In a report, the country’s statistics agency noted that the headline Consumer Price Index (CPI) dropped from 71.60% in June to 61.78% in July, a bigger drop than the expected 62.1%.
The CPI rose from 1.64% in June to 3.23% in July on a month-on-month basis. While this was ab increase, it was lower than the median estimate of 3.45%.
The Turkish producer price index (PPI) also continued falling in July, moving from 50% to 41.36%. It also rose slightly from 1.385 to 1.94% on a MoM basis.
These numbers mean that the Turkish inflation has started to move in the right direction, a move that the central bank loves. However, they remain at an elevated level compared to other countries. Its monthly growth is also higher, meaning that Turkish residents are paying more for most products.
Therefore, the USD/TRY pair rose because some analysts expect that the central bank could take these inflation numbers positively and start cutting interest rates prematurely. In a recent statement, the central bank governor has maintained that he saw no need to cut rates for now.
The CBRT, which has left rates at 50% for four straight months, is working to establish credibility among investors. It has raised interest rates from 8.5% in May last year to 50%, its highest point on record. This trend has helped to attract foreign investors in Turkey, who have added over $30 billion in Turkish stocks since 2023.
However, the challenge is that President Erdogan still hates high interest rates and could sack the current governor as he has done before. In a recent note, an analyst said:
“Nobody knows whether the current central bankers will be able to fulfill their promises, or whether they will be sacked abruptly at some point. It is this suspicion that keeps the expectations unanchored based on the experience of the recent past, where five central bank governors were replaced in five years.”
The US dollar index has crashed
The USD/TRY exchange rate has soared even as dynamics in the forex market have changed as the US dollar index (DXY) has tumbled. After peaking at $107.22 in 2023, the DXY index has dropped to $103.20.
Analysts believe that the currency could drop further as the Federal Reserve starts cutting interest rates amid recession fears in the country.
Most analysts expect that the Fed will start slashing rates this year. Citigroup, JPMorgan, and Wells Fargo analysts see the Fed slashing them by 50 basis points. Other banks like Bank of America, Barclays, BNP Paribas, and Jefferies expect it to cut by 25bps in September.
The most dovish analysts are from Citi, JPMorgan, and Wells Fargo who expect the Fed to slash by 125 basis points this year and 100bps in 2025.
Either way, Federal Reserve cuts could lead to a weaker US dollar as we saw in the last rate cycles. For example, the US dollar index tumbled to $89 in 2021 as the Fed delivered multiple interest rate cuts to deal with the pandemic.
The US dollar then started rising in 2021 as inflation rose and as analysts predicted that the Fed would hike interest rates.
Therefore, the Turkish lira would do well if the Fed started cutting interest rates and if the Central Bank of Turkey (CBT) maintains a hawkish tone and even hikes interest rates in the next meetings.
Such a move would lead to more inflows into Turkey from foreign investors looking for higher yields.
However, in the past Fed cuts, the Turkish lira remained under pressure because of the actions of Erdogan, who has a habit of firing hawkish central bank officials.
USD/TRY technical analysis
The weekly chart shows that the Turkish lira has been in a deep sell-off for a long time. It has moved from a low of 6.89 in 2021 to over 33.55 today. Most recently, it has risen in the past seven consecutive weeks, pushing it to its highest level on record.
The USD/TRY pair has risen above all moving averages, meaning that bulls are still in control. It has also remained above the Ichimoku cloud indicator.
On the positive side, there are signs that the pair is forming a bearish divergence pattern. The Percentage Price Oscillator (PPO), a unique type of the MACD, has been in a downtrend since August last year. The Relative Strength Index (RSI) has also formed a bearish divergence.
Therefore, while the USD/TRY forecast is still bullish, there is a risk that it could see a big reversal as we saw with the Japanese yen recently. The Japanese yen rallied sharply against key currencies after the Bank of Japan (BoJ) rate hike.
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