June 8, 2018 / 7:50 AM / in 8 months

UPDATE 3-Turkish lira weakens after rate hike-driven gains; bank stocks drop

(Recasts, adds quote)

By Daren Butler

ISTANBUL, June 8 (Reuters) - Turkey’s lira weakened against the dollar on Friday, giving up some of the previous session’s gains, when it rallied after the central bank raised interest rates more than expected.

Bank stocks tumbled more than 2 percent after Moody’s downgraded its ratings on 17 Turkish lenders, citing concern about the rising cost of their foreign currency funding, given the sell-off in the lira.

The lira has weakened some 15 percent this year, hit by concern about President Tayyip Erdogan’s grip on monetary policy ahead of June’s elections. But the central bank’s aggressive rate hikes - it has now tightened by 4.25 percentage points in just over two weeks - appear to have calmed the market.

“Turkey are changing their tune, which is a good thing,” said Salman Ahmed, chief investment strategist at Lombard Odier Investment Managers. “But I am concerned about what happens after the election because the underlying problems are not being sorted.”

The lira stood at 4.4883 against the dollar at 1216 GMT, easing from a close of 4.4850 on Thursday. It remains well off a record low of 4.9290, which it hit on May 23.

On Thursday, the central bank raised its raised its one-week repo rate to 17.75 percent. Two weeks ago, as the lira tumbled, it lifted rates by 3 percentage points.

Erdogan, a self-proclaimed “enemy of interest rates”, has stepped up pressure on the central bank before the presidential and parliamentary polls. He wants to see lower borrowing costs to spur credit growth and construction.

Economists fear the economy is overheating. The lira’s decline has reflected investor concern about the monetary policy outlook under Erdogan after the election.

Erdogan, who has dominated Turkish politics for a decade and a half, is seen as falling short of a first-round victory, a new poll showed on Thursday, although he has far greater support than his closest challenger

The fall in banking shares weighed on the main BIST 100 share index, which was nearly 2 percent lower at 96,714 points.

“The downgrades reflect Moody’s view that the operating environment in Turkey has deteriorated, with negative implications for the institutions’ funding profile,” Moody’s said in its downgrade late on Thursday.

The government was quick to counter that view, with Deputy Prime Minister Mehmet Simsek taking to Twitter to defend the banking sector, saying lenders were profitable, well-capitalised and had strong assets.

The yield on the benchmark 10-year bond was at 15.11 percent on Friday, down from 15.26 percent in spot trade on Thursday. (Additional reporting by Nevzat Devranoglu and Sujata Rao Writing by David Dolan Editing by Larry King)

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