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The Alchemy Volume VIII

The Alchemy by Mergen Consulting Group Vol. VIII ~ 1 ~

The Bowl of the Alchemist

Wisdom suggests that one should be careful what he wishes for…Obviously we

lack such wisdom, as during the last Alchemy, our biggest problem was the lack of

interesting subjects to write about. Since the last issue, Turkey has experienced an

unbelievably interesting period, with unparalleled terrorist attacks in big cities, a

Coup attempt, cleansing of FETO / Community members from the public sector, a

couple of military actions in Southeast of the country and a change of state

structure. As such moves meant incredibly fast changes each and every day, it was

impossible for us to put together a decent piece to be issued without being

outdated, for the last 2 years.

Although our alleged wrong-forecasting the environment is blamed for our

silence, we have seen the support of our veteran and conscious readers. Our main

thesis that the Turkish economy has been stronger than it seems and we may

change our long-term look only due to political reasons has been proven right,

given that Turkey’s credit note or borrowing capacity have been very little

effected from the events of the last 2 years. It is obvious that Turkey is not a

priority in foreign investors’ list, yet the internal dynamics of the market is still

solid given the traumas of 2016 & 2017.

Even now, when we were about to hit the “send” button yesterday, an unexpected

early election came from the President, which required certain additions and

comments on this issue. Yet, we did not change our thoughts, therefore you may

see some discrepancies with the election news in our writings. This is the result of

our sincerity. As said, you must be very careful with what you wish for….

Later in 2H, we are aiming to provide you an empirical study on the market

concentration, compared with European markets, with lots of our own analysis on

the subject.

We wish you all a happy reading…

Dr. Kıvanç ERMAN, mrics.

Mergen Consulting Group

Founding Partner


Politics

In our latest issue, we have been talking about the perils of a coalition government, for

Turkey of course. Despite everything we have experienced, thank God we did not have a

coalition government, especially during and after the Coup attempt, where the full strength

of a state should immediately be reflected. Should there be a coalition government, Turkey

will be much weaker during such stage, which may even lead to a civil war. It is probably

better to wrap up the events of the last 2 years, in order to better understand the current

status quo and to reflect our ideas to the future.

After the renewal of the elections on November 1st 2015, AKP restated its majority with a

vote of 49.4%, providing the party a solid seat number of 316 at the parliament. CHP, the

accustomed follower and the long-term opposition, stayed at 25.4%, with only 134 seats.

MHP has beaten by HDP for the first time in its history by 41 to 59 (in terms of seats) where

in terms of votes, MHP was still the third with 11.93%.

In our last issue, we have clearly stated;

“ … the Mr. President has declared in one of his speeches that this election would be the

one to vote for Presidential regime. Well obviously, we do not want it, thank God. Readers

of our past issue will certainly recall our concerns on such a system, where we can only find

in France all over Europe, whose functioning will be a great problem over time. “

However, the renewal of the elections gave AKP the majority and with the support of MHP, a

path to change the system.

2016 started with significant terrorist attacks in big cities such as Istanbul & Ankara. In the

first 3 months, we have seen 6 big attacks where almost 100 people were killed and

hundreds were injured, mostly by bombings. It was like a button pressed and that ISIS and

PKK were having coordinated attacks, mostly with pre-installed bombs or suicide bombers.

After the designation of Mr. Binali Yıldırım as the new Prime Minister, the attacks

accelerated in frequency and effect, where at the end of June, ISIS had a very serious attack

with 3 suicide bombers at the Istanbul Atatürk Airport, where we have lost 44 more souls to

terrorism. From where we stand today, it was obvious that a bigger thing was coming and


these were just the preps for the real “mise-en-scene”. On July 15th , everyone was surprised

with a clumsy and unbelievable Coup attempt. Given that the last Coup in Turkey was some

35 years ago, and almost one-third of the commanding officers were in jail due to

allegations, no one believed in such coup at the first moments. Plus, the attempt was

extraordinarily clumsy as it started on a summer Friday evening at 20:30; where almost all

the Istanbul population is out for fun or on the traffic jam. Given the Turkish Army’s

experience, both in domestic or international matters, no one took it seriously, until the

plotters started to open fire to the people trying to convince them. Then by the calling of

the President, people went on the streets and a chaos started for a few hours. Ankara was

worse with bombed barracks of the Police SWAT, yet Turkish Army Elite Forces (Bordeaux

Berets) and Police SWAT has taken over control after several hours.

Such event is traumatic for every country but what one should understand is that “Army” is

holy for Turks. Families send their sons to the army, knowing that they will be taken care of,

and in certain regions of the country, traditionally a man is not to marry unless mandatory

army duty is fulfilled. Turks have been soldiers and Army is a great part of the society for

more than a millennium yet during any of the previous coups in history, Turkish army NEVER

FIRED A SINGLE BULLET to its population. Cheated soldiers on the Bosphorus Bridge and

some other fanatic Community members of the Army broke this and paid by their own lives.

Retrospective analysis suggests that all the events after the renewal of the elections were

the cards of a poker game played by one single hand, as can be seen in the Arab Spring.

However, this time, the Country stroke back, and the locals won. For anyone thinking that

we are too patriotic and seeing a foreign hand as a conspiracy, please watch TV Series

Homeland Season 6 Episode 11; minute 16 and onwards where the ex-intelligence officer

explains the Madame President Elect how they have been organizing the same “mise-en-

scene” since 1950s in Iran, to bring down the elected government:

• The family of the President-elect will be blamed for ethical reasons.

• Then an unknown money account will be shown.

• While you are trailing the money, the protestors will be on the street

• A huge and artificial media campaign will be organized against the President Elect

• A chaotic environment will be manipulated to a supported revolt or Coup

• The President Elect will be replaced by a puppet or will be isolated by a group of

puppets of the manipulating force.

Our veteran readers always know that we are nowhere to defend any politician and we have

never been the lawyers of the government; yet if you still think that this is just a coincidence


and everything that happened in Turkey is the 100% fault of the Turkish politicians, well we

feel sorry for you and wish you a happy life in your very small world. Please continue waiting

Santa Claus under the fireplace during Christmas. Good luck!

For those who have eyes to see, what we have lived in the country for the last 2 years is a

new version of the same play; say like English libretto of the Hugo’s Notre Dame de Paris on

the scene. First the PKK card has been put in play, then came the ISIS card (who never

attacked a Turkish target before) when PKK could not deliver. The last card was the FETO

(Community) card but it had to be played very soon and very amateur-wise. This is definitely

not a conspiracy; states always do such things to each other as no one wants a strong

country in a region to be re-organized; especially if that region is Middle East. It is not a

secret that the western world is not enjoying Mr. Erdoğan as the elected President because

he is perceived unpredictable and uncontrollable for them. However, Turks have a tendency

to get united during crisis; that is what you do if you if you have a warrior DNA. We believe

that this was out of the equation of the card players. When Turks crown someone, Turks

depose him; not anyone else. Please refer to the 600 years of Ottoman history for more

detail.

Obviously; overthrow of the Coup attempt led to certain operations within the Army and

police forces, where almost 10,000 police officers are sidelined in 6 months’ time. State of

Emergency has been declared (still valid with the 5th quarterly extension) to ease the

issuance of new laws and to strengthen the hand of the Government in the declared war

against FETO and all its allies and supporters; including newspapers, public workers and

some private companies known supporting the organization. Despite the perception from

abroad, the State of Emergency did not affect the daily life / business other than the first 2

months.

As expected, the terror card came back to the table, with PKK attacks to soldiers and ISIS to

civilians. After an ISIS attack on a wedding ceremony in Gaziantep, where 57 souls lost, an

immediate military operation started during August 2016 called Shield of Euphrates, where

the Army started a huge intervention in Northern Iraq and Syria. This also had a unifying

psychologic effect in the army, still living the after-shock of July 15th. PKK and ISIS continued

to attack with their last power nevertheless, killing 45 people after a soccer game with

planted bombs and 39 people on the first night of the New Year, the infamous Reina

massacre. The Shield of Euphrates has continued until the end of March 2016, almost 7

months, crippling almost all the real force of ISIS and PKK. Thank God, Reina Massacre

remained as the sole big-scale incident of the year, proving the efficiency of the operation.


Army Chief of Staff declared that the efficiency of the Army has increased after the removal

of FETO elements within the armed forces.

2017 is mostly marked by the domestic events like the Presidential election in April. With

51.4% of the votes, presidential system is accepted. 94 years of Parliamentary System has

been replaced with a Presidential (or Semi-Presidential, no one knows yet) System. As we

have stated our thoughts multiple times about the new system, we see no reason to exhaust

our readers further. However, we believe that the opposition of 48.6% should not be

neglected. It is only 2.8% difference after all.

Mr. President has proven his unpredictability by signing S400 missile contract with Russia, as

a countermove to the concealed weapons embargo of US and Germany, our NATO allies.

Although everyone thought we were in dispute with Russia, after the murder of the Russian

Ambassador by a probably FETO member police at the end of 2016 and the killing of 3

Turkish soldiers by Russians, Mr. President signed the S400 contract despite the NATO

warnings, beneficial for both sides, in September 2017.

September was a hot month for international politics; as the Northern Iraq Autonome

Region went on independence referendum, a very bold move considering their ability to

remain independent. Remembering that they were not able to defend their capital city Arbil

2 years ago against ISIS without US Air Force support, such decision was nothing but a

wishful thinking for them. Although they had more than 90% of the votes for independence,

military intervention of the Iraqi army, supported by Turkish embargo crippled Mr. Barzani in

a month and forced him to change his decision 180⁰. French Ambassador’s declaration,

stating that “…they may have misled Mr. Barzani a little bit…” after the event was nothing

but unveiling of another traditional Middle East mise-en-scene.

Speaking of independence, September was the month also for the peak for the hypocrisy of

the Western politics, where the Catalan parliament declared independence and fled by the

Spanish Army immediately, where the Catalan leader had to flee to Belgium. To avoid any

misunderstanding, we are not supporting neither Catalans nor Spaniards. We are simply

saying that this is a domestic decision for the entire Spain and the process should be solved

within Spain and it is no one’s right to interfere. Yet for years, Western politicians supported

separatist moves in southeast of Turkey, even terrorist organizations like PKK, and claimed

autonomy or independence for Kurdish minority (which is never perceived as minority but

part of the general population in Turkey); however when the same thing happens in EU


borders they have seen no bias in busting a parliament and capturing the leader. Again, we

are just stating and underlining an interesting fact and a double standard here, we are not in

a place to support any sides in Catalan / Spain dispute.

Mr. President’s next move in domestic politics was to get rid of certain big city mayors that

he was not in line with. Especially Istanbul (15 years) & Ankara (23.5 years) mayors were

known to be not in very good terms with the President. Both mayors are called to resign and

despite some opposition on their side, they complied at the end.

One of the most important events of 2017 was the incarceration of Mr. Reza Zarrab, a native

Persian and a legal Turkish citizen, claimed to violate US embargo to Iran. It is a widely

accepted fact that Mr. Zarrab does not have a clean sheet on the matter yet it is interesting

that he travelled US knowing that he would be incarcerated. Given that this is a US embargo,

not an international one, Turkey can not be blamed for disobeying politics of a 3rd country

normally, yet a financial intervention / concealed embargo is awaited from US, especially to

Turkish banks.

If the events of 2016 – 2017 have proven us something, it is the fact that Turkey has never

been and will never be like Europe or US in terms of understanding of democracy. We have a

totally different approach to state – citizen relation and it is in our DNA, carved by the long

history we have lived on this soil. Anyone who continues to look with a western eyeglass will

lack the chance of understanding this country. We are not pure westerns nor easterners. We

are simply a different type.

PS: A very good example on difficulties of writing an updated report in a hyperactive

environment like Turkey. While we were about to hit the “send” button to distribute this

piece, the President declared the Early Elections, to take place on June 24,2018. We believe

that it is better both politically and economically to have the elections as soon as possible

as otherwise they would be creating a huge uncertainty for the following 12 - 18 months.

We appreciate the decision, even technically, and we believe that this would accelerate the

business environment after the elections are completed, especially without any drastic

change. The worst outcome would be the “cohabitation” as called in France, where the

President is from a party which can not have the majority in the Parliament. In semi-

presidential systems, this may lock the system down for a long period of time. Yet AKP and

MHP declared that they will have a partnership during the elections, meaning securing a

vote over 50% in any case in the parliament.


Economics

The previous issues of the Alchemy had detailed sections of economy, covering pages. In this

issue, not to break the tradition but to catch the ever-dynamic environment, we intend to

keep this section short for once, and leave space to other items.

As can be remembered, in our last issue, the biggest problem in the Turkish economic daily

events was the “lowering of the interest rates”. Mr. President was heavily pressing CBTR to

lower the rates and was even discussing the independency of the CBTR. Then-CB governor,

Mr. Başçı was totally against lowering rates further, in an environment where FED was

expected to increase rates and CBTR was bleeding out reserves due to FX volatility. Well, Mr.

Başçı’s term ended, but from where we stand, he seems right, given that the current state of

rates, not only in Turkey but all around the world, are higher than his period.

Source: CBRT

Obviously, one may claim the effect of Coup attempt in 2016 and that most of the

aggregates are derailed due to this event, but we believe that the rate levels at the time

were not sustainable for a long time, let alone lowering further. We surely accept that such

event is catastrophic for an economy and had a huge role in our current situation; especially

in FX volatility and FX reserve bleeding out , yet Turkish economy was not that strong to

lower the rates whereas the whole world was doing the contrary.

4.0%

5.0%

6.0%

7.0%

8.0%

9.0%

10.0%

11.0%

CBTR Policy Rate


Source: CBRT

Above chart suggests that we are far from the wealthy days of having USD + 130 billions in

reserve and still continue losing FX reserve due to the outflow and the uncertainty. We have

always been in comfort with the amount of our reserves, yet given the trend of the current

account balance, we may start to feel restless somehow.

Current Account Deficit (Monthly)

Source: CBRT

0

20,000

40,000

60,000

80,000

100,000

120,000

140,000

160,000CBTR Gross FX + Gold Reserves

Gross FX Reserve

Gold

-90,000

-80,000

-70,000

-60,000

-50,000

-40,000

-30,000

-20,000

-10,000

0

Jul-

11

No

v-1

1

Mar

-12

Jul-

12

No

v-1

2

Mar

-13

Jul-

13

No

v-1

3

Mar

-14

Jul-

14

No

v-1

4

Mar

-15

Jul-

15

No

v-1

5

Mar

-16

Jul-

16

No

v-1

6

Mar

-17

Jul-

17

No

v-1

7

Mar

-18


This is definitely not the best outlook ever, yet we should never decide on limited number of

indicators. Later on we will be seeing that the Ex-Im coverage ratio is recovering yet this is

also a natural consequence of a rapidly depreciating currency in an economy, therefore we

need to look closer, from different perspectives.

In our previous issue, we have stated “…Please note that every USD 10 price drop per barrel

in oil prices bring down the CAD USD 4.4 billion on annual basis. This will also put a

pressure on inflation as a bonus…”, to show our belief in the coming days. This idea was

then true as the oil prices were coming down and so was the CAD, but now things changed

180 degrees. The oil prices went up almost 100% from the beginning of 2016, where we

have experienced as much low as USD 35 / barrel, therefore creating an additional negative

pressure on the CAD as much as USD 15 billion since then. Combined with the outflow from

Turkish assets after the Coup attempt, it is normal to see such erosion in the FX reserves.

The question is that we can stand this bleeding out for how long?

Monthly Oil Prices – Last 10 Years

Source: Foreks

We have repeatedly stated that CAD is also a consequence of the growth in the economy

and that Turkish CAD always increases when growth accelerates. This is the structural soft

belly of the Turkish economy and will not change in the near future. However, having no

growth during expanding CAD will mean that we are only “spending” and it is a sure way to

hell. At least we are producing now.

$20

$40

$60

$80

$100

$120

$140

$160


2016 was a negative year for sure… It is not easy for a country to have a Coup attempt on

Friday night and to open its financial markets on Monday morning. Yet that was the case in

July 2016. Turkey, keeping its promise to be an integrated market, kept its markets open

even after 48 hours after the Coup attempt is overthrown, despite the fact that such bravery

would cost billions of US dollars due to the panic. We believe that this is not something that

every county can do; we have seen what happened after the Belgium and France attacks.

However, it was just one quarter that the economy shrank, the 3Q normally, with - 0.8%

pulling down the whole year’s growth only to 3.2%, again not much understandable by the

western mind. The declaration of State of Emergency and its repetitive extension by the

government was perceived negatively and expected to bring down the economic growth, as

such thing will definitely stop an economy in Europe, whereas in Turkey it has been used by

the government to get rid of any such obstacle and gridlock blocking the wheels of the

economy and of course, to get rid of the FETO structure. Therefore, the economic growth is

not affected negatively from the attempt, other than the relevant quarter of the year.

Quarterly Growth Figures 2007-2017

Source: Treasury

8.1%

3.8%3.2%

4.2%

7.0%

2.6%

0.9%

-7.0%

-14.7%

-7.8%

-2.8%

5.9%

12.6%

10.4%

5.3%

9.8%

12.4%

9.9%9.7%

5.3%

3.1%2.8%

1.6%1.4%

3.1%

4.7%4.3%4.6%4.9%

2.3%1.9%2.6%2.3%

3.8%4.0%

5.7%4.8%4.9%

-0.8%

4.2%

5.4%5.4%

11.3%

7.3%

-15%

-10%

-5%

0%

5%

10%

15%


We have always been stating that “misunderstanding” is one of the most important themes

when it comes to Turkish economy and the economy has a certain internal dynamic pushing

its growth over 3% at all costs. When we look at the last 10 years’ growth figures, we see

that the 10Y average is at 3.8%, lower than the any previous 10Y period, yet still over 3%

despite a global crisis, lots of uncertainty, lots of elections, a coup attempt and military

operations at the borders. One may suggest that the number comes from the first half of the

10Y period, yet the second period seems more successful with 4.3% despite most of the

negative events taking place in this period.

Annual Growth Figures 2000-2019E

Source: Treasury, Middle Term Programme

As we have stated previously, despite our positive mood, we have to accept the fact that

there is a growth slowdown issue in Turkish economy, given that the average of 2002-2012

was 5.4% despite the European crisis, but for the last 5 years it remained at a lower level of 3

- 4%. This shows us that we are having a Middle Income Trap, as we have been around USD

10,000 level and cannot move forward since 2008.

6.2%

5.3%

9.4%

8.4%

6.9%

4.6%

0.7%

-4.8%

9.0% 8.8%

2.2%

4.2%

2.9%

4.0%3.2%

7.4%

3.8%

5.0%

-6.0%

-4.0%

-2.0%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%


GDP per Capita 2002-2017 (USD)


Since 2013 – 2014 period of USD +12,000 income, Turkey has been losing blood with

relatively slowing economy, coupled with the huge volatility in the FX markets due to the

political uncertainty and the general increase in the population; have obviously caused a

drop in the GDP per capita, bringing down the personal income to USD 10,600 levels from a

higher 2013 of USD +12,000 levels.

During the previous issues, we have enjoyed the luxury of being right about the CAD and its

direct correlation with growth and had the opportunity to prove our readers the fact that

during times of slower growth, the CAD shrinks drastically to under 4 % levels, yet in 2017,

we have experienced a huge deficit of almost 6%, definitely disturbing coupled with the loss

of reserves.

Growth & Current Account Deficit 1998-2019E


2,000

4,000

6,000

8,000

10,000

12,000

14,000

20

02

20

03

20

04

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12

20

13

20

14

20

15

20

16

20

17

-% 10.0

-% 8.0

-% 6.0

-% 4.0

-% 2.0

% 0.0

% 2.0

% 4.0

% 6.0

% 8.0

% 10.0Current Ac. Def / GDP

GDP Growth


But one should always note that we have seen worse figures without any crisis or

whatsoever, as between 2010 – 2014 is definitely underlined with CAD figures over 5%, even

8.9% in 2011. This means that CAD itself is not an issue as long as financed properly.

However this time, given that the Country is bleeding out FX reserves and that the external

debt of the private companies are skyrocketing, we have a certain right to feel a little bit

disturbed.

As always stated, even above in this issue, the increasing FX rate coupled with the slowdown

in the economy will be providing a better environment for a shrinking CAD in 2018 - 2019.

However, as we always suggest, export / import coverage ratio is the short-term indicator to

watch for any discrepancy, as we find any continuous trend under 60% alarming, which is

not the case, thank God.

Ex-Im Coverage Ratio (Monthly)

Source: TURKSTAT

40%

60%

80%

100%


As seen from the above chart, the Ex-Im coverage of the Turkish economy is volatile as

always, but usually over the 60% level almost for the last 48 months, despite a retreat from a

peak over 80%, thanks to the easing of the TRL. In addition to this, annual data on Ex-Im

Coverage ratio is not alarming, yet to be closely watched, as well. The below chart suggests

that we had worse days like 2010 – 2014 period.

Ex-Im Coverage Ratio (Annually)

Source: TURKSTAT

However, we must state that the level of exports and imports are at increasing pace,

suggesting that the wheels of the economy are well greased and turning. Both figures

suggest an increase compared to previous periods, exports being second to 2014 in all-time

high race whereas imports are much lower compared to 2011 - 2014 period again. Such

data relieves us from immediate panicking; as we have always suggested, this is a structural

problem of the Turkish economy, not a signal for a catastrophe.

51.0%

75.7%

69.9%

68.1%

64.8%

62.9%

61.3%

63.0%

65.4%

72.8%

61.9%

56.3%

64.7%

60.3%

65.1%

69.4%

71.8%

67.2%

71.8%

73.8%

45.0%

50.0%

55.0%

60.0%

65.0%

70.0%

75.0%

80.0%

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018* 2019*


Export – Import Figures (USD Bios)

Source: TURKSTAT

One of the good results of the economic programme established by Mr. Dervis at the time is

that, public sector gross debt became one of the areas that Turkey is stronger and better

than most of the EU members. Turkey surprisingly reaches to its target at the end of each

year, each one lower than the previous. With an EU Defined debt ratio of below 30%, Turkey

is one of the few countries in Europe satisfying the Maastricht criteria in this particular field.

As can be seen from the below chart, the Public Sector Gross Debt is in a declining trend and

the MTP forecasts it to continue for the coming years as well. As we have stated in our

previous issues the press and some other entities have been continuing to create noise on

the external debt of Turkey and in the past, we have dedicated a whole section on the

“details” and “breakdown” of such debt. We do, of course, accept that the gross external

debt has gone from USD 281 billion in 2008 to over USD 450 billion in 2017, surpassing 50%

of the GDP, yet compared to the past figures and the EU members, this is still at a low level.

As we have stated previously; “We would like to remind our veteran readers that this level

was 57% during 2001-2002 crisis and mostly stemmed from the public sector side. However

this time, we are dealing with private sector debt, which goes directly to investment and

growth, rather than populist policies and spending. Therefore, despite the higher level of

-

50.0

100.0

150.0

200.0

250.0

300.0

Export Import


Gross External Debt / GDP, compared to 2008, we still believe that we are way lower than

the crisis level, considering the ID of the borrowers.”

EU Defined Debt Ratio (% of GDP)

Source: TURKSTAT, MTP

This, of course, does not mean that we are quite relaxed on the level of indebtedness,

however we believe that we are a little far from the panicking point still. We accept that the

Turkish net international debt / GDP is over 30% and the CBTR net reserves are around 85%

of the short term debt (traditionally over 90%), yet we believe that there is still time for the

government to fix this. We are more concerned on the level of CBTR reserves.

We have always been a proactive follower of the unemployment data, which we have seen

alarming in the past.

“…One of the silently alarming indicators is the unemployment data, even despite the new

EU compatible series which creates lower levels, again jumping over the 10% threshold. As

always stated, Turkey, due to the huge young generation coming, has to grow at least 5%

on average to create enough new jobs and to decrease unemployment. We believe that it

is normal to have a pike in the unemployment in a year where the growth expectations

were even surprising at 3.3% levels, obviously insufficient for such addition to the labour

force...”

72.1

65.7

57.750.8

44.7

38.238.1

43.940.1

36.5

32.7 31.4

28.827.6

28.3

28.3

60

20

30

40

50

60

70

80

Public Sector Gross Debt (EU Defined, % of GDP)

Maastricht Criterion


Given that for the last couple of years we had a very positive growth figure, at least over 3%

for the last 5 years despite everything, the government should find a way to keep

unemployment under 10%, as otherwise this would create a social and political problems as

well as economical.

So far, coalition governments tend to sacrifice inflation for growth and unemployment, but

the Dervis programme and the AKP government applied otherwise, and to be honest, they

have done great for the last 15 years. However, 2016 -2017 was a difficult period for the

government; where despite the growth, the unemployment remained over 10% threshold.

Unemployment

Source: TURKSTAT

As the government heavily failed consecutively on the 2014 - 2016 unemployment forecasts

of under 10% on the MTP, it seems like they have accepted that the unemployment will

remain over 10% level for a while, as seen from the MTP figures below. Given that we do not

expect a big jump in growth for 2018 – 2019, it will be hard to decrease the unemployment

for more than a full percentage for the coming years.

6%

7%

8%

9%

10%

11%

12%

13%

14%

15%

16%


Unemployment Figures 2001 – 2019E

Source: TURKSTAT, MTP

Our veteran reader’s will surely remember that we have always supported Mr. Basçı when

he was the governor of the CBTR, against the attacks of Mr.President, to lower the rates

further. It was a technical question for us, not political as it was for Mr. President, as

lowering the rates in such environment would pump up the inflation unexpectedly.

However, period of Mr. Başçı ended and the new Governor does not seem to have the same

problems with him. In his defence, he did not lower the rates sharply as Mr. President

wanted at the time, but this was mostly because of the sharply increasing inflation which left

no room to anyone in the debate. From where we stand today, Mr. Başçı has done the right

thing, both technically and politically, to defend the independence of the CBTR.

At the time, while defending the CBRT governor vs Mr. President’s attack, we have stated

the following paragraph, which has proven itself quite right so far:

“…. considering the below chart, we believe that the Governor has every right to behave

cautiously, given the recent rise in the inflation. Although during the last months we see a

glimpse of a turndown, we believe that staying cautious in such an environment will have

its own reward in the mid-term.”

8.4%

10.3%10.5%

10.8%10.6%

10.2%10.3%

11.0%

14.0%

11.4%

9.8%

9.2%9.6%

9.9%10.3%

10.9%10.8%10.6%

10.4%

7.0%

8.0%

9.0%

10.0%

11.0%

12.0%

13.0%

14.0%

15.0%


Inflation & Benchmark Rates

Source: TURKSTAT, CBRT

Well, given that after July 2016 the PPI and CPI had jumps of almost 10% and 5%

respectively; forcing the benchmark interest rate 7-year high level, we believe that our

decisions were technically right at the time.

Just to note, we also see the rise of the inflation and benchmark interest rates very, very

alarming, coupled with unemployment and good growth. We believe that these 3 should not

be together in an economy as one should be avoiding the other, like in the case of growth

and unemployment.

As we are accustomed, we will be looking at other aggregates as well, before we

establish our base line scenario.

Industrial Production Index


-5.00

0.00

5.00

10.00

15.00

20.00

25.00

30.00

PPI CPI Benchmark Rate

40.00

60.00

80.00

100.00

120.00

140.00


Capacity Utilization Rate


Although the Industrial Production Index seems ok, the Capacity Utilization Rate seem a

little bit depressed, given that it is under its 12 month moving average in a 7.4% growth year.

For the last couple of issues, Consumer Confidence Index was a concern for us, as it used to

decline relentlessly for a period of time and given the events between our last issue and

now, it is quite understandable to have a depressed chart below. We do not expect a huge

change in the consumer confidence during 2018, or to be honest until the end of elections in

2019, given the current situation of the political environment.

Consumer Confidence Index


55.00

60.00

65.00

70.00

75.00

80.00

85.00

90.00

40.0

50.0

60.0

70.0

80.0

90.0

100.0

110.0


As accustomed, in light of the indicators analysed above, we continue by summarizing our

thoughts and checking the main theme again, in order to see the implications on our real

estate strategy as follows, also self-criticising our findings in previous issues:

1. In our last issue, we have switched our main theses from “Misunderstanding” to

“Consolidation”. Yet the events following our new established theme were almost

preventing the market to “consolidate” as the consolidation requires a certain level

of comfort in the market for certain buyers to consolidate. However, the

disturbances we have experienced since the beginning of 2016 created chaos in the

markets, as well as further uncertainty. We believe that given the current situation in

economy and real estate markets, our new theme will be “Restructuring” from real

estate markets to political situation, companies and business environment.

2. It is not possible to forecast the economic aggregates given that we have only 1 year

to the Presidential elections, and 2018 seems passing with further military operations

along our borders. Although we do not expect a surprise in the elections, it is very

hard to predict the economic situation until then. We expect (or hope maybe) to

protect the current status quo in the economy.

3. We were expecting Mr. President be held back to the constitutional borders of the

Presidency, yet the Coup definitely and normally forced his hand, supported by the

State of Emergency. Such bad event has led to a normal passage to Presidential

regime, probably easier than expected.

4. For the moment, we are not concerned about the CAD, as we have seen worse ratios

so far. In addition to this, we see that the Ex – Im Coverage ratio is improving and

exports were nearly at record levels where the imports increased at a steadier pace.

However, we believe that CAD and related aggregates should be watched closely,

given the problem in FX reserves.

5. CBTR’s net reserve levels are a little bit disturbing to us. We are far from the mighty

USD +130 billion levels which were quite comforting at the time and given that the

Net Reserve / Short Term Debt ratio is under the traditional 90% threshold, we have

every right to be uncomfortable. We are not panicking, yet we believe that the Net

Reserve aggregate should be watched quite close, as this is the area we have been hit

before. Given Turkish economy’s tendency to outer shocks, it is always to have a solid

war chest aside.


6. We still believe that the low level of leverage in the economy (52%) is still the biggest

cannon in the arsenal. We believe that the indebtedness of the Turkish companies is

not an issue yet as most of the debt is long-term. Yet we do accept that the position

should be closely watched.

7. We reiterate our last paragraph in the previous issue, as it states our current state of

mind: “As previously and numerously stated, we see the current political situation

as the biggest threat for the economy. The growth average in coalition years was

around 4%, yet they always sacrificed inflation and indebtedness to reach this

target; which means derailing of the current strategy and success so far attained.

Therefore we watch the developments very closely and will inform our readers with

a separate flash note when necessary.”

8. We appreciate the early election decision as what we hate the most is the

uncertainty. Financial markets always tend to avoid uncertainty, and given the

current uncertain environment, it is another disaster to have the elections 1 – 1.5

year later, creating further volatility and uncertainty. Just technically speaking,

without taking any political sides, with this move a big reason of uncertainty has been

avoided, especially if we do not see a drastic change in the results. The most tragic

result will be “cohabitation” in French system, where the President is from a party

which can not have the majority in the Parliament. As we have stated before various

times, this is the soft belly of the system.

In this regard, we are normally not keeping our bullish stance anymore but we believe we

have past the bearish scenario already, therefore we insist on keeping close watch on

aggregates and reposition ourselves according to the developments ahead. Election results

are obviously very important for the 2H of 2018 and onwards. A “cohabitation” will mean

losing 5 years whereas a solid result will boost the economy.


Commercial Real Estate Markets

Our previous issues had a call that the growth in the shopping centre industry will continue,

albeit at a decreasing pace; and that the average size of the centres would be getting bigger,

yet we have seen this latter call seriously challenged, as most of the new openings were in

secondary & tertiary cities during this period.

2010 - 2017 New Openings

Source: Turkish Council of Shopping Centres

Between 2011 – 2016, we have seen that the growth increased at a decreasing pace, both

the percentage of new stock and the number of new centres. Yet we have observed a

gradual increase in the average size as we have forecasted in our previous issues. Obviously

we are not going to brag about being the right one; this is a natural progress in a market

coming to saturation. As the markets get crowded, it is normal to have less growth in both

percentage and absolute value, and each centre is expected to have bigger average GLA. The

exception in 2017 in total GLA comes from the fact that bigger centres have been opened in

Istanbul, such as VadIstanbul and Emaar Square.

It is almost structural now that Istanbul does and will keep 39% of the total GLA volume for a

very long time. Although the number of new centres decrease in Istanbul each period, the

average size is usually bigger than rest of the country, helping the city to keep its ratio intact.

The distribution of pipeline also corresponds to 40%, keeping the breakdown steady for the

coming future.


2017YE GLA / 000 Capita


İstanbul continues to be the most saturated city traditionally, although several times passed

by Ankara in the past. Yet the opening of + 100,000 sqm projects such as VadIstanbul and

Emaar Square keeps the city at the leading position with over 310 sqm / 000 capita whereas

Ankara remains at 283 and the Turkey average slightly over 160, almost half of Istanbul.

İstanbul pipeline also seems stronger compared to Ankara, which will keep the city’s leading

position for a longer period of time. Both cities continue to widen the gap with their

followers, notably with Bursa, the real tracker given the city size. Cities from Bolu to

Nevşehir are in the table not due to their GLAs but due to their limited population, therefore

the table should be evaluated accordingly.

Coming back tour growth analysis, we are referring back to our growth indicator we have

been using for the last couple of issues. Although it is just a basic growth rate vs its moving

average chart, we believe that the indicator is quite capable of showing us the growth pace

at a glance.

Our indicator proves us right, showing that the growth of GLA has been in a significant

downtrend for the last 10 years in fact, as it is below its 5Y moving average. 2017 has tried to

be an exception yet still not able to pass over its 5Y MA. We do not expect 2018 to be an

exception, as there is no big opening in the pipeline for the year, yet mathematically

speaking it is quite possible as the MA level is at the historic low levels, therefore should not

be interpreted as a pickup of the trend.

City No of SC GLA PopulationGLA / 000

Capita

İstanbul 113 4,593,360 14,804,116 310.28

Ankara 36 1,516,334 5,346,518 283.61

Bolu 3 76,100 299,896 253.75

Karabük 3 48,248 242,347 199.09

Kırıkkale 3 53,106 277,984 191.04

Edirne 4 73,561 401,701 183.12

Nevşehir 2 52,034 290,895 178.88

Bursa 15 514,030 2,901,396 177.17

Antalya 17 400,721 2,328,555 172.09

Muğla 11 156,685 923,773 169.61

Kocaeli 11 305,862 1,830,772 167.07

Turkey TOTAL 394 11,953,007 74,280,248 160.92


GLA Growth Rate (%)

Source: Mergen Consulting.

2015 – 2017 events we have experienced and explained in detail at the beginning of the

report, have rendered one of our forecasts wrong. Our forecast regarding the prime rent

was as follows in the previous issues:

“As we have stated in our previous issues, the prime rent increased slightly with the

opening of Zorlu Centre, to € 85 level. The current volatility in the FX rates and the currency

fixations on the retail market limits the further increase, therefore we believe that we will

see the next important hike with the opening of Emaar Square.”

Well, certainly this was not the case as Emaar Square has been opened with a notable

vacancy, even after phasing the project in 2, and definitely not with new records in prime

rent. Unfortunately the long - awaited project has been a victim of the events during the

leasing process and most of the retailers either negotiated or pulled back their offers,

especially not reaching the expected success levels at Zorlu Centre at the opening. We

believe that both projects will be landmarks in the coming future but need time for the

moment. In this regard, rather than increasing the prime rent, we downgrade it to € 70 level,

given the strength in IstinyePark and recovery in Zorlu Centre.

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%


Despite the ease of growth, the total GLA in the market reached almost 12 million sqm, with

394 shopping centres at the end of 2017, with no further big openings ahead. The next big,

shiny project on the market to be let is Rixos Group’s Haliç Project, along the Golden Horn,

replacing the old shipyard. The project has a potential of up to 100,000 sqm of retail in a

historical area of Istanbul, heavily accessible and is expected to host a good portion of luxury

as well as contemporary retail. We may see an increase in the prime rent if and only if this

project is let in a proper environment.

Retail Stock & Pipeline


We are planning to issue another study soon, mostly empirical, on the saturation level of the

Turkish market, compared to other European markets with our own indicators, preferably in

the early 2H of the year.


When it comes to offices, our veteran readers know that one of the biggest problems on the

office market is the determination of the total volume of stock. We always preferred to use

Propin data as they have been providing to-some-extent-reliable research for a very long

time, which can reveal the dynamics of the market if properly analysed. However, they also

tend to update their data backwards from time to time, quite acceptable in such a closed

market, which forces us to do the same normally.

Between our issues, Propin increased its data quality notably, relieving us from a huge

burden of assumptions and allowing us to see the market more clearly.

Office Supply 2012-2017E

Source: Propin

As seen from the above chart, the office stock continues to increase yet at a decreasing pace

as is the case in retail and is expected to pass over the 6 million threshold with the new

projects to be completed during 2018, such as VadIstanbul 3rd phase and Signature on

Büyükdere Street with almost 100,000 sqm of new office space in both projects.

2,200

2,300

2,500

2,600

2,700

3,200

3,800 4,200

4,700

5,700 6,600

7,100

7,800

1,000

2,000

3,000

4,000

5,000

6,000

7,000

8,000

9,000


Grade A Office Supply 2017 YE

Source: Propin, Mergen Consulting

The above table shows us the breakdown of the Grade A office supply in Istanbul, in sqm

terms, providing the future stock as of 2019 YE.

Based on the 2015 Propin data, we have made the following analysis; which we should

revise in light of the updated 2017 Propin data:

“Normally, CBD holds approximately 38% of the total stock whereas Non-CBD Europe is

around 27%. Despite the coming pipeline is almost one third of the current stock, the

future breakdown is not promising a huge change, meaning that at least for the coming 3

to 5 years, the breakdown of the stock will not experience a dramatic change.”

2015 Breakdown of Stock


Market Sub-Market Current ('000) Pipeline 2019 ('000) Future Total % in Future T.

CBD 1,900 200 2,100 30.88%

Non - CBD 1,100 50 1,150 16.91%

1,425 175 1,600 23.53%

1,375 575 1,950 28.68%

5,800 1,000 6,800 100.00%

Grade A Offices Supply

Europe

TOTAL

Emerging Districts

Asia

CBD, 38%

Non CBD Europe, 18%

Non CBD Asia, 31%

Emerging Regions,

13%


2017 data may not be suggesting a radical change, yet as now we have the luxury of a proper

data, for the sake of clarification and better informing our readers, it is better to share the

2017 YE stock and the forward expectation. Our back-data analysis shows that Propin has

only missed certain data by 1%, quite acceptable in terms of these market conditions. The

difference probably stems from the delay of the completions, rather than Propin’s updates.

Expected Breakdown of Stock – 2017 YE


These 2 charts above and the following chart show us the change in the supply in 4 years’

time. We clearly can see that the CBD (Europe) and Non – CBD Asia are losing share for the

benefit of the Emerging Regions, increasing their share in the total supply from 13% to 27%

in 4 years. Biggest reason of such change is the high rent levels in CBD and Non-CBD Asia as

well as the lack of further suitable and feasible land in these regions for development.

CBD, 35%

Non CBD Europe, 19%

Non CBD Asia, 25%

Emerging Regions,

21%


Expected Breakdown of Stock – 2019 YE


The biggest change in the data we are using from Propin has been for the vacancy. Updated

/ reorganized notably, we believe now that the data reflects better the vacancy in the

regions.

Vacancy by Office Regions (%)


Regionally speaking, as can be seen from the above chart, the vacancy in the CBD had a huge

spike for the last 4 -5 years, given the new supply and the fly away from the region due to

high rent expectations of the landlords. Old office buildings in the region, despite their good

CBD, 32%

Non CBD Europe, 19%

Non CBD Asia, 22%

Emerging Regions, 27%

-

5.0

10.0

15.0

20.0

25.0

30.0

35.0 CBD (Büyükdere ST)

Non - CBD Europe

Non - CBD Asia


locations, can not capture the new tenant type, looking for integrated functions and more

leisure in the workplace.

Other regions are also bleeding out, despite some recovery during some periods, to the

benefit of Emerging Regions such as Kağıthane, etc. Coupled with the reluctance in new

office take ups due to the economic situation and uncertainty, such a fly away from CBD can

be considered normal.

Vacancy by Office Districts (%)


If we take our analysis one step further and look at the data on district basis, we see that the

real escape is from Maslak and Levent area in the CBD, given the high rents and insufficient

infrastructure in these districts.

-

5.0

10.0

15.0

20.0

25.0

30.0

35.0

Levent Maslak Kozyataği Ümraniye


We also stick with our diagnosis about region switching, especially to the emerging regions,

as we have stated in our previous issue:

“We only add that the reason of increasing vacancy in Levent region is the completed

projects rather than a demand problem, as is the case for other districts. However, we

must also make a small explanation that certain level of vacancy in Maslak is created due

to the demand choice, as some of the previous demand in Maslak is now switching to

Kağıthane region as more economic and accessible projects are now completed. We

believe that, especially after the opening of VadIstanbul project, Kağıthane district will be

the new Maslak, with more affordable rents and more quality infrastructure.”

In an environment where such a big supply and switching to emerging areas occur, it is

normal to except a suppression of rents for a while, also supported by the fact that the

supply grows more than the demand. Below chart shows us the average rent levels realized

for the last 12 years:

Average Rents by Office Regions (USD)

Source: Propin, Mergen Consulting.

5.0

10.0

15.0

20.0

25.0

30.0

35.0

1H

20

05

YE

20

05

1H

20

06

YE

20

06

1H

20

07

YE

20

07

1H

20

08

YE

20

08

1H

20

09

YE

20

09

1H

20

10

YE

20

10

1H

20

11

YE

20

11

1H

20

12

YE

20

12

1H

20

13

YE

20

13

1H

20

14

YE

20

14

1H

20

15

YE

20

15

1H

20

16

YE

20

16

1H

20

17

YE

20

17

CBD (Büyükdere ST) Non - CBD Europe Non - CBD Asia


As can be seen from the above chart, the average rent levels are in a downtrend for the last

4 years and seriously under pressure for the last 2 years, due to Emerging Regions. An

important finding is that the gap between the regions started to shrink for the last 2 years.

Of course, it is not logical to expect the gap to be fully closed yet the rents seem to establish

a new equilibrium level.

Average Rents Asked by District (USD)


As the vacancy is proven to increase with the above charts, it is logical to expect that the

prime rent is coming down respectively. Below chart shows us the asked prime rents by

district, where we see a substantial decline in the rent levels in almost all of the regions.

Obviously, CBD and Maslak is the worst affected regions, given the already high rent levels

and lack of infrastructure in the latter. This caused the companies to re-assess their

strategies regarding their HQ locations, and forcing them to give a chance to Emerging

Regions such as Kağıthane. However, from our own market involvement, we are aware that

due to the market and economical conditions, the rents in Emerging Regions like Kağıthane

are falling as well, given the low level of demand and re-negotiation of rents in the market.

10.0

15.0

20.0

25.0

30.0

35.0

40.0

Levent Maslak Kozyatağı Ümraniye


Asked Prime Rents by District (USD)


A brand-new office project in the heart of Kağıthane, surrounded with lots of facilities has

lost ground for the last 2 years, as a AAA international company was signing a rent

agreement with a rent of USD 22.5 at mid - 2016, whereas now the rent is no more than USD

17-18 in the same building, signalling a decline of almost 25%. Obviously, the insufficient

take up is also important in the price squeeze, considering the amount not only in sqm terms

but as percentage of the total stock.

Take up Volume 2006 - 2017


15

20

25

30

35

40

45

50

55

60Levent Maslak Kozyatağı Ümraniye

59,784 33,347

88,000 79,000 98,000

118,000

234,000

339,000

373,000

265,000

208,000

359,000

-

50,000

100,000

150,000

200,000

250,000

300,000

350,000

400,000

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017


As can be seen from the above table and chart below, although the 2017 take up volume

seems close to record levels in sqm terms, it is actually very recently recovering from all-time

lows in percentage of stock terms, which is much more important considering its effect on

the rent levels. The sqm take up is not bad at all, yet given the huge increase in stock over

the years, it is barely over 6% of the total office stock, keeping its trend under the 5Y moving

average for the last 3 years. Such graph tells us that the demand can not keep up with the

expansion of the supply, forcing the prime and other rent levels down naturally. In this

regard, considering the additional 1 million sqm supply expected in 2 years, coupled with the

economic structure, we do not see any reason for the rent levels to recover soon. In fact,

given the fly to the emerging regions and increasing vacancy in the CBD, the prime rent is

likely to experience some more downward pressure.

Take up Ratio 2008 - 2017


4.00%3.43%

3.92%4.54%

8.67%

10.59%

9.82%

6.31%

4.43%

6.30%

2.00%

3.00%

4.00%

5.00%

6.00%

7.00%

8.00%

9.00%

10.00%

11.00%

12.00%Take Up Ratio

5 per. Mov. Avg. (Take Up Ratio)


Investment Market

As can be imagined, 2015 elections and following political uncertainty were enough reasons

for the foreign investors to stop looking at Turkey on investment level. Coupled with the

Coup attempt in July 2016, Turkish investment market remained purely to locals. The main

theme was unfortunately “Flying away from the country” meaning that the foreign investors

started to sell their shares to local investors at good prices just to exit from the country due

to the panicking in 2016 & 2017.

In an international institution mindset, we do understand the reasons of such exit strategy

quite well. However, we have always stated that Turkey has a terrible PR and seriously has a

problem in perception, causing things to be perceived worse than they are. This was no

exception of course and the foreign investors who were not keen on staying in Turkey,

started to look for immediate exit strategies.

It was not only the foreigners who sold, but lots of shopping centres also changed hands

between partners or local investors, behind closed doors. One of the biggest deal of 2016

was the disposal of Starcity Shopping Centre in Istanbul by Altınyıldız – Ülker Group, to a

very reputable local developer / investor, Tahincioğlu Group, at a price of over USD 60

million. This was followed by the centres owned by supermarket chain Real, who ceased its

operations in Turkey and sold its properties, mainly supermarket anchored 1st generation

supermarkets, to a local chain.

The change in ownership of CarrefourSa has led a similar reaction in CarrefourSa properties

either owned by the company or by Aerium, creating a transfer of ownership to new players.

Carrefour Bahçepark and Bayrampaşa have been sold by the company where as Ankara &

Izmit shopping centres owned by Aerium have been sold to local investors, all new or recent

players in the market. Aerium’s biggest move and the biggest trade of the market, was the

disposal of İçerenköy Carrefour to Gülaylar Group. 127,000 sqm of land and project, with a

serious estimated upside potential of development has been acquired by the seasoned

investor group for development purposes, already having City’s and Meydan Ümraniye at

their portfolio. The officially declared price is € 228 million + VAT, yet we believe that this

amount also hosts the upside potential sharing.


A long time Turkey investor, Amstar properties also executed their exit strategy, however

this was not a flying away from the country as the group is known to dispose these assets for

the last 2 years. The group had sold its 50% stakes in Piazza portfolio, developed & partnered

with Rönesans, to its long-term partner, the natural buyer in this deal. Amstar only owns

50% of the Piazza Urfa while these sentences are redacted, which will most probably will see

the same ownership change in the near future.

Rönesans, buyer of the partner’s shares in Piazza portfolio, also sold 50% of its shares in

Optimum Adana and Optimum İstanbul to its comparatively new partner, GIC. With this

portfolio shuffling, Rönesans now holds the entire Piazza Portfolio, 50% of Optimum

Portfolio and has GIC as investor / shareholder with 21% in its board.

At the end of 2017, we have seen some more deals, all off-market. First, Fiba Holding has

acquired İnegöl Shopping Center, a tertiary city shopping centre of 33000 sqm, at a price of

USD 50 million. The year closed with a deal of USD 300 million (incl VAT), namely acquisition

of Metropol Shopping Centre by 2 residential developers from Varyap & Çalık groups, or

effectively from the financing bank, Al Baraka. Although the construction of the project is

nearly finished, the leasing process has just started, therefore there is no yield data

calculated on the deal.

2018 also started quite fast, with 40000 sqm Neoplus in Eskişehir, developed by Krea Fund at

the time, has been sold to NaTa Group, a big local developer from Ankara, at a price of €

15.3 million, almost close to the land price of the property. The project was not performing

quite well for a long time, yet it is another example of foreigner – to – local deal.

First months of 2018 also experienced the sale of CarrefourSa İzmit Shopping Center, from

Aerium to Haldız Yapı, a local construction group, a new comer to the market. The details of

the deals are not disclosed yet is a good example to foreigner – to – local deal again.

Certainly the most important deal of 2018 so far is the sale of shares between IstinyePark

partners. Doğuş Group, previously holding 42% of the ICSC awarded legendary project, was

known to be in cash squeeze for some time, given their credit restructuring demand to banks

for its debts above USD 5 billion , sold 22% of İstinyePark shares to a price of around € 275

million, corresponding to a yield of 7% for the € 80 mio annual NOI bringing giant, according

to our market contacts. The group is said to have further put option for the remaining 20%,


which we believe to be executed soon. The remaining 80% is now owned by the JV of 2 well-

known and reputable investors, Zafer Kurşun and Zafer Yıldırım, also the developer / owner

of Orjin building in Maslak, one of the best office buildings in town, hosting multiple

respected tenants like E&Y and GE.

With these “fly away from the country” or “exchange of partnership ratios”, international

investors are still holding slightly over 3.1 million sqm, including the partnerships with locals,

in a market of almost 12 million sqm, slightly over 25% in total.

On the office side, we have seen some public and off-market deals in the market for the last

2 years. We have previously stated that the biggest problem in Turkish office market is the

floor-by-floor selling of the properties, definitely not in institutional standards. Yet we have

at least seen a real office deal, in VadIstanbul, one of the most respected projects on our

side with high hopes for the future. SOCAR, the Azeri petroleum giant has purchased a 19000

sqm stand-alone office building in the project as their Istanbul HQ, at a price of USD 75

million including VAT at the beginning of 2015. The project continues to sell offices since

then, yet none of them was a full block unfortunately. However, our market involvement

suggests that the developers are in talks with some groups regarding the sale of other office

buildings to reputable investors & owner occupiers.

The last word is not on “investments” but on “investors”. Turkish investors are passing

through a tough period, not only in terms of physical environment but also psychological

one. The environment of “being an investor” is constantly changing yet it is very hard to say

that all of our investors adapt these changes. The challenges of Turkish investors can be

stated as follows:

• Turkish investors are not accustomed that the real estate prices decline in the real

world. Since the first shopping centre transaction, the price of shopping centres, as

long as they operate properly, either remained the same or increased. Turkish

investors have hard time to understand that “a properly working shopping centre”

and “a decreasing value” can be in the same sentence as they resist accepting that

the value of a centre is not only determined by current NOI and current yield, but

also the certainty of the future cash – flows, competition, demand & supply, macro –

economic situation and so on. They basically keep on increasing the prices of

shopping centres annually, increasing gap between the real value and the price much


further. Basically, it is the first time that they are having a bear market and they

simply can not understand it.

• Some of the Turkish investors tend to be quite selfish in their financial understanding.

During development phase, they want to pay less, not to outsource certain expertise

related functions, not to pay any money if possible but to have the best tenant

mixture and the best service available in the market. Mostly, the criteria of choice is

the lowest price, ending with huge loss of quality, especially in fatal services like

leasing and management, which actually gives and keeps the value to a property.

• They believe that they do not need feasibility studies. Lots of shopping centre

investments, even in the middle of the city, suffered from lack of proper feasibility

studies, hence suffering from huge NOI losses.

• Most believe that “real estate and properties should not be sold unless there is an

idiot on the other side”. This is a serious financial theory where everyone looks for a

bigger fool, valid especially on the stock market. Turkish investors are not inclined to

sell unless the price includes all the future possibilities, opportunities and price

appreciations; not with the real value; therefore they only need a bigger fool who is

not looking for profit but just a cash flow. As there is no such fool in real estate to pay

the entire future profit as a price, the market gets locked or frozen during times of

volatility. This officially kills the property market by illiquidity. Foreigners are also

poisoned in the past due to these expectations, given that the majority had high

hopes, not the reality, in terms of prices.

• Contrary to this, they are willing to buy an asset if and only if it is cheap, preferably

close to its land value if possible. That’s why foreigners flying away had to sell at a

seriously less price than they could have achieved with a reasonable price

expectation 2 -3 years ago.

• There is no real institutional investor in Turkish market and seems like there will not

be much for the coming 5 years. We may have REITs and funds (born dead

unfortunately) but they are mostly the institutional disguises of the family

companies. There is no Union Real Estate Fund, Klépierre or Unibail – Rodamco like

institution (whatever the size is) in this market. Therefore, the decisions are made by

a single investor, probably the head of the owner family, having a good but naturally

limited approach to the multiple aspects of real estate business.

• Some financial institutions, undertaken the development finance at some point in

time, are now the official owners of some properties. Yet due to their nature of

business, they have limited understanding of managing / leasing a property,


therefore they are ruining some good, opportunity assets with their limited

knowledge. As they have no understanding of property valuation, they expect huge

prices on disposals, therefore not being able to get rid of the asset but creating

further chaos on the market.

We have a lovely idiom in Turkish, saying “ poke the needle to yourself first, before poking

the awl to others”, which means we have to look for our own faults before accusing others.

Maybe now it is time for Turkish investors to poke themselves with needle to understand

the real reasons of the current situation in the market.


Philosopher’s Stone

Although we have been accustomed to check our previous issue’s thoughts in this section; as

we are now in the verge of changing our main theme, and may be even the main strategy; it

is much better to state the main points that we would be closely watching in order to

establish our philosophy.

• We are very happy to hear about the early elections, as we believe that sooner the

uncertainty fades, the better.

• Our last main theme was “The Consolidation” however given the events after our

recent issue, it was impossible to have any kind of consolidation; as this happens at

the peak of the market. On the contrary, as we have already passed the bottom, we

see a real “Restructuring” in the market, which we believe is the new theme. This is

not just political but also economical, affecting companies, projects and deals; given

the end of the extreme bearish era, as long as it is not a dead-cat jump.

• CAD and FX reserve figures are slightly scaring us, especially as the latter has been

under the traditional 90% threshold. In a world where we do not have good relations

internationally, we would prefer having better reserves. Yet as we have stated during

the report in detail, we are not advising to panic, but to watch the FX related

indicators closely.

• Despite the panicking writers and academics detached from the real markets, we are

not panicking on the debt level of the corporate sector as we see higher levels in

other countries. Although these guys say that there would be a problem in financing,

Ziraat Bankası has recently had a consortium credit of USD 1.4 billion, a record level

for a Turkish bank.

• As long as we don’t have a “cohabitation” situation, we believe that the early

elections decision is one of the best decisions AKP & MHP have made so far. Instead

of a pending problem for 1-1.5 years, we will get rid of the election environment

quite quickly, saving time and resources for the economy to grow in 2018 – 2019.

Should there be a cohabitation,….Well, we don’t want to think about that now…

• Although currently we are not alerted by the CBRT’s loss of reserves for the last 2

years, we may panic if this continues further. CBRT has accumulated a great amount


of reserves for the last 10 years, therefore this level of loss is still bearable, yet if it

declines further, say around 70% threshold levels, YES WE DO PANIC.

• Unemployment is another problem for us. In economic sense, we prefer employment

to growth as you can not save economy with jobless people and ethically it is not fair.

We are closely monitoring unemployment data as this may also lead to further

political / social problems.

• As stated in the last issue, our expertise suggests that it is not logical to expect for

fresh foreign investment from abroad in this environment. However, the result of the

early elections may be a game changer, if a very solid result is taken on AKP – MHP

front, promising a politically solid 5 years. We will have the municipality elections in

2019 in any case, but this is not a deal breaker whatsoever. We do not expect a total

loss of interest, as seen from the gulf region from time to time, yet it would be

harder for European funds to meet their investment criteria if things go as now.

As stated previously, we keep our neutral stance in the commercial real estate market and

the only risks we perceive are the future “cohabitation” situation, possible further

deterioration in fundamentals such as FX reserves and unemployment on the long run, as

well as the other risks stated above. We will definitely issue another Flash Note following

the results of the election and will discuss about the outcomes and any strategy /

expectation changes.


Dr. Kıvanç ERMAN, MRICS

Founding Partner

+90 212 709 9833

+90 533 608 3661

[email protected]

www.mergenconsulting.com

The Alchemy aims to bring you the comments and developments from Turkish Real Estate Markets and the effecting

developments on other areas. We have collected the news and based our comments on the sources believed to be reliable

and trustworthy. It is always possible that despite the utmost care there may be discrepancies about the truth and the

collected intelligence, hence the comments. We are always happy to correct and provide our clients the true data as long as

it is corrected by the source itself. If you believe that the comments or the intelligence stated do not reflect the truth,

please do not hesitate to contact us for correction.

mailto:[email protected]

http://www.mergenconsulting.com/

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