What can we learn from Turkey's Lira recent volatility?

 

Turkey's currency, Lira, is experiencing a period of high volatility in the Forex market. Earlier this week, the market sold off Lira due to the coming Turkish Presidential and Parliamentary elections. However, the market only started to take more active activities after rating agency warnings. This might imply that investors make their decisions largely depending on the information provided by rating agencies rather than their individual judgment. The investors in the Forex market can mimic other activities and the rating agencies can mimic others' ratings; when the two herding effect activities take place at the same time, the effects will be piled up and multiplied to generate an incredible result. It easier for people to mimic the actions of their group than to mimic the actions of the people who do not belong to their group. This could explain why Turkey's Lira hit the historical low even when the elections have not created any certain effects on the Turkish economy yet.

After the Turkish central bank announced an increase of the key lending rate from 13.5% to 16.5%, Lira appreciates sharply due to the market rally. This can be explained by the action of the central bank, since when the base rate increases, the exchange rate tends to increase (appreciate). However, it also can be seen as a market correction which is sparked by the central bank rate hike.

The latest appreciation of Lira is not a surprise; however, we may see the earlier depreciation of Lira was a result of coincidence (or luck). This may suggest that the market correction to overreaction (underreaction) take places with almost certainty, while the surprise is purely a result of luck (collusion of multiple parties).