1

DenizBank Economic Update

November 2018

Economy

Financial Markets

Banking Sector

Economic Research and Strategy

Saruhan Özel, Ph.D.

Ezgi Gülbaş

Deniz Bayram

2

Economy (I)

DenizBank Economic Update

November 2018 In

fla

tio

n

Gro

wth

Inflation climbs to 25.2% as the deterioration in pricing dynamics continue...

● Consumer prices rose by 2.7% MoM in October. While highest contribution to monthly inflation came from seasonal price increases in clothing (12.7% MoM) and rising food prices (3.2% MoM), price hikes in ex-change rate sensitive core goods such as transportation and household equipment) were still significant.

● October imprint took annual inflation to 25.2% from 24.5%, its highest level since 2003. Upward trend in core inflation (24.3%) and price hikes spreading across all categories indicate significant deterioration in pricing behavior. Moreover annual PPI inflation remained elevated at 45%, suggesting cost-push pressures will persist. As lagged impact of FX depreciation continue, we expect headline inflation to remain above 20% in 1H19, before high base effect kicks in. Our 2018 and 2019 year-end inflation expectations are at 25% and 16%, respectively.

● Following the 625 bps hike in in September meeting, Central Bank (CB) kept the policy rate constant at 24% in October. Yet CB keeps the hawkish tone and the tightening bias, reiterating that the tight monetary stance will be maintained until gloomy inflation outlook displays significant improvement. Recent apprecia-tion of 9% in TL since the last meeting and contraction in economic activity provides a case for CB against further rate hikes. However, given the elevated levels of inflation expectations, we expect CB to avoid any premature rate cuts and keep the policy rate at least at current levels until the end of 1H19.

Slowdown in economic activity deepens in 4Q18...

●Following the strong economic growth (6.2% YoY) in first half of 2018, leading indicators demonstrate a significant downturn in economic activity starting from 3Q18. Industrial production (IP) was up 0.5% in 3Q18 compared to 7.3% in 1H18, signalling economic activity remained roughly flat in 3Q18.

●Moreover, preliminary indicators suggest contraction in economic activity in 4Q18. Manufacturing PMI de-creased to 44.3 in October from 46 in 3Q18 and capacity utilization decreased to %73.7 in November from 77%, indicating IP growth turned to negative territory in 4Q18. Moreover, consumption good imports de-creased by 40% in October and auto (-68%) and white goods sales (-29%) nosedived, reflecting the sharp contraction in domestic demand. This is also evident in 1% nominal decrease in consumption tax revenues.

● As contraction in bank loans accelerated (-10.1%, see page 5), we expect a more severe slowdown in economic activity in 4Q18. As growth turns to negative in 4Q18, we expect 2018 full-year growth rate to decrease to 1-1.5%.

-1%

1%

3%

5%

7%

9%

11%

-4%-2%0%2%4%6%8%

10%12%14%16%18%20%

1Q

11

3Q

11

1Q

12

3Q

12

1Q

13

3Q

13

1Q

14

3Q

14

1Q

15

3Q

15

1Q

16

3Q

16

1Q

17

3Q

17

1Q

18

3Q

18

GDP and Industial Production (YoY Change, NSA)

Industrial Production

GDP (Right Axis)

42

44

46

48

50

52

54

56

58

72%

74%

76%

78%

80%

2013 2014 2015 2016 2017 2018

Manufacturing Industry Leading Indicators (Seasonally Adjusted)

Capacity Utilization Rate

PMI

25.2%

24.3%

2%4%6%8%

10%12%14%16%18%20%22%24%26%28%

Headline CPI

Core CPI

Headline and Core Inflation

24.0

19.9

6

8

10

12

14

16

18

20

22

24

26

28

30

Jan-17 Apr-17 Jul-17 Oct-17 Jan-18 Apr-18 Jul-18 Oct-18

Weekly Repo Rate

Average Funding Rate

O/N Lending Rate

O/N Borrowing Rate

LLW Lending Rate

BenchmarkBond Yield

Policy Rates (%)

3

Economy (II)

DenizBank Economic Update

November 2018

Ex

tern

al S

ec

tor

Improvement in external balances gains momentum...

● Slowdown in economic activity led to a rapid improvement in external balances in 3Q18. In August and September, current account recorded all-time high monthly surpluses (Aug:$1.9 bn, Sep:$1.8 bn), and 12-month trailing current account deficit (CAD) decreased further to late 2017 levels of $46.1 bn (5.8% of GDP) from a peak of $58.3 bn in May.

● Due to sharp slowdown in domestic demand and strong export performance, core annual CAD (exc. ener-gy and gold) turned into a surplus ($2.6 bn) for the second time since May 2015. Net gold imports decreased significantly, although still high at $10.3 bn on 12-month basis. On the other hand, energy deficit continued to worsen ($10.4 bn annually) due to higher energy prices (Brent oil $75/bbl in Sep 18 vs. 61$/bbl in Sep 17), though at a slower pace. As oil prices retreated sharply below $60/bbl in November, prolonged deterio-ration in energy deficit may also come to an end in last two months of 2018.

● Quality of CAD financing worsened as reserve drawdowns ($24.6 bn annually) together with net errors and omissions ($21.2 bn) have been the main source of financing, and capital outflows continued.

● Significant decrease in trade deficit (imports down by 23%) points to another record high current account surplus in October. As contraction in domestic demand continues, we expect CAD (% of GDP) to decrease to 4.4% by the end of 2018.

Budget deficit continues to widen as tax revenues weaken...

● In the first 10 months of 2018, central government budget deficit rose by 78% to TL 62 bn from TL 35 bn in the same period of 2017, bringing 12 months trailing budget deficit to TL 75 bn (1.9% of 2018). Budget expenditures increased by 23% due TL 24 bn benefit handed out to pensioners , increase in the capital spending and rising interest expenses in first ten months of 2018. On the other hand, increase in tax reve-nues were limited (18%). Due to weaker domestic demand and new regulation curtailing special consump-tion tax on oil, indirect taxes increased 12% in January-October, compared to 15% inflation in same period. Non-tax revenues (up 87%) partly compensated the slowdown in tax revenues.

● Significant slowdown in tax revenues pose risk on government’s 1.9% budget deficit and 0.1% primary surplus target in 2018, which requires slowdown in expenditure in last two months of 2018. Government commits to fiscal discipline in 2019 according to the recently announced budget plan targeting a 1.8% (%of GDP) deficit and a primary surplus of 0.8%.

Pu

bli

c S

ec

tor

-17

-53

-40

-18

-29

-19-23 -24

-30

-47

-62

-72

-1.8%

-5.3%

-3.5%

-1.3%

-1.9%

-1.0%-1.1%-1.0%-1.1%-1.5%

-1.6%

-1.9%

-6%

-5%

-4%

-3%

-2%

-1%

0%

-80

-70

-60

-50

-40

-30

-20

-10

0

Budget Balance (TL Bn)% of GDP

*January-October 2018

33

0 8

24

19

31

2730

21

9

35

3.3%

0.0%0.7%

1.8%

1.2%

1.7%1.3%1.3%

0.8%

0.3%0.1%

0.1%

0%

1%

2%

3%

4%

0

10

20

30

40 Primary Budget Balance (TL Bn)% of GDP

*January-October 2018

-40-12

-45

-75

-49-65

-44-32 -33

-47 -46

-5.2%

-1.9%

-5.9%

-9.0%

-5.6%-6.8%

-4.7%-3.7%-3.8%

-5.6%-5.8%

-15%

-13%

-11%

-9%

-7%

-5%

-3%

-1%

1%

-110

-90

-70

-50

-30

-10

Current Account Balance (Bn $)

CA Balance CA Balance (% of GDP)

-46.1

2.6

-35.7

-80

-60

-40

-20

0

20

2010 2011 2012 2013 2014 2015 2016 2017 2018

Current Account Balance

Current Account Balance (ex. gold)

Current Account Balance (ex. energy and gold)

Current Account Balance (Bn $ , 12M Trailing)(Bn $)

4

Financial Markets

DenizBank Economic Update

November 2018

De

bt

Ma

rke

t

Turkey’s 2-year benchmark bond yield decreased below 20% in November (-450 bps) to July 2018 level, from a peak of 28% in August (2017: 13.4%)

Cu

rre

nc

y M

ark

et

Sto

ck

Ma

rke

t

TL appreciated by 27% since the sharp drop in August (8% in November), recovering most of its losses. Yet, YtD depreciation in TL is still high at 28% while EM peers depreciated by 9% on aver-age.

MSCI Turkey index was up MoM by 5.6% (in TL terms) in November, in line with EM peers. On YtD basis, MSCI Turkey index was down by 18%.

Data retrieved from Bloomberg as of 14:00 (GMT + 3), 30.11.2018

24.0

19.9

6

8

10

12

14

16

18

20

22

24

26

28

30

Jan-17 Apr-17 Jul-17 Oct-17 Jan-18 Apr-18 Jul-18 Oct-18

Weekly Repo Rate

Average Funding Rate

O/N Lending Rate

O/N Borrowing Rate

LLW Lending Rate

BenchmarkBond Yield

Policy Rates (%)

-0.4%

1.1%

13.3%

2.2%

-2% 0% 2% 4% 6% 8% 10% 12% 14%

Turkey

Poland

Russia

Brazil

CDS

210

167

67

388

EM CDS Spreads Monthly Change (%, 5 Year)

7.6%

8.1%

-1.5%

1.8%

0.3%

1.7%

0.9%

0.5%

-3.4%

-4% -3% -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 8% 9%

ZAR

TRY

RUB

PLN

MXN

KRW

HUF

CZK

BRL

Monthly Change Against $ (Positive Values= appreciating against $)

60

80

100

120

140

160

180

2014 2015 2016 2017 2018

Stock Market Performance (Jan-14=100)

MSCI Turkey Index

MSCI EM Index 5.6%

2.1%

1.0%

13.6%

0% 2% 4% 6% 8% 10% 12% 14%

EM Banks

US Banks

EU Banks

TR Banks

Monthly Performance of Banking Shares (%)

5

Banking Sector (I)

DenizBank Economic Update

Ca

pit

al

Turkish banking sector has a strong capital base. Capital Adequacy Ratio is at 18.2% as of Octo-ber 2018.

Fu

nd

ing

Deposits went up YoY by 19% (3.1% net-of-currency) to TL 2.1 trillion as of November 18. The share of deposits in funding is stable at 54%.

Le

nd

ing

Contraction in loans (13 week average net-of-currency) accelerated to an annualized rate of 10.1% in November.

November 2018

-10.1%-20%

-10%

0%

10%

20%

30%

40%

50%

2011 2012 2013 2014 2015 2016 2017 2018

Loan Growth Rate(13W MA, Annualized, Net of Currency)

Macro Prudential

Measures

Credit Guarantee Facility

140

150

160

170

180

190

200

210

220

500

600

700

800

900

1000

1100

2013 2014 2015 2016 2017 2018

Deposits

TL deposits (TL bn)

FX deposits ($ bn, right axis)

17

0

16

5

15

2 16

1

14

7

14

4

14

3

13

6 14

4

14

0

5060708090

100110120130140150160170180

Liquidity Coverage Ratio

Regulatory Minimum75

8877

10291

10090 85

95

74

20.6%19.0%

16.6%17.9%

15.3%16.3%

15.6%15.6%16.9%18.2%

14.0%13.3%13.2%14.1%14.5%

0%

5%

10%

15%

20%

25%

0

20

40

60

80

100

120

2009 2010 2011 2012 2013 2014 2015 2016 2017 Oct 18

Owners' Equity CAR Core Capital RatioCapital and CAR ($ bn, %)

32% 29% 23% 20% 17% 15% 14% 13% 12% 12%

47% 52% 56% 58% 60% 62% 63% 64% 64% 61%

21% 19% 21% 22% 23% 23% 23% 24% 23% 27%

Other Loans Gov. Bonds

Breakdown of Total Assets

69% 67% 65% 62% 61% 60% 59% 58% 56% 54%

10% 12% 14%14% 17% 18% 19% 20%

19% 21%

13% 13% 12% 13% 11% 12% 11% 11%11% 10%

7% 7% 9% 10% 10% 11% 11% 11% 14% 15%

2009 2010 2011 2012 2013 2014 2015 2016 2017 Oct-18

Other Capital Wholesale Deposit

6

Banking Sector (II)

DenizBank Economic Update

Lo

an

to

De

po

sit

Ra

tio

s

Loan to deposit ratio (LDR) and TL LDR decreased to 117% and 139%, respectively.

Lo

an

Qu

ali

ty

Headline NPL ratio for the banking sector rose moderately to 3.5%.

P &

L

As of October 2018, 12 months cumulative profit increased YoY by 15% to TL 54 bn. RoE of the sector decreased slightly to 14.2%.

November 2018

20

30

40

50

60

70

80

90

100

110Protested Bills and Unpaid Cheques(# Thousands)

Protested Bills (3 Months m.a)

Unpaid Cheques (3 Months m.a)

33%

43%

51% 62%

71%

79%

80%

76%

84% 97

%

102%

108%

115%

118%

118%

123%

117%

0%

20%

40%

60%

80%

100%

120%

140%Loan to Deposit Ratio (%)

33% 46

% 60% 71

% 87%

93%

90%

84%

87% 10

5%

112% 12

4%

131%

141%

134% 14

8%

139%

0%

20%

40%

60%

80%

100%

120%

140%

160% TL Loan to Deposit Ratio (%)

13.420.2 22.1 19.8 23.5 24.7 24.6 26.1

37.5

49.153.8

-10%

50%

10%

-10%

19%5%0% 6%

44%

31%

15%

0

10

20

30

40

50

60

-20%

0%

20%

40%

60% 12 Months Cumulative Profit

Net Profit (Bn TL)

18.0

20.6 19.016.6 17.9

15.3 16.3 15.6 15.6 16.9 18.2

16.5

20.5

18.0

14.2 14.413.1

11.4 10.513.3

14.9 14.2

0

5

10

15

20

25

0

5

10

15

20

25 CAR (%) ROE

3.5%

2.8%

5.9%5.5%

2.5%

1%

2%

3%

4%

5%

6%

7%

8%

9%

2013 2014 2015 2016 2017 2018

Headline Consumer LoansCredit Cards SMECorporate-Commercial