Lebanese crisis and lessons to be learned from international markets

Ela Karahasanoğlu

-One of the interesting news in June was the recent series of robberies in Lebanon which have shaken the nation and raised serious concerns about the country’s financial stability. The interesting part is not the robberies, but that the regular people of the country have resorted to stealing basic supplies such as food, medicines, baby formula and diapers. Yet nothing is as unbelievable as the investors robbing their own bank to access their own deposits.

 –But how did Lebanon get there? Lebanon’s Central Bank, the Banque du Liban and its governor of 30 years, Riad Salameh, promoted a conservative and stable monetary policy after the civil war that helped transform the country and increase its living standards through easy money. However, plagued with widespread corruption and lack of effective regulatory oversight, the country struggled to pay its debt. As a solution the Lebanese Central Bank turned to its commercial banks to fill in the holes in its foreign currency reserves. Yet these bank reserves that the Lebanese Central Bank ”borrowed” were investors’ own deposits.

 –As central bank foreign currency reserves got eventually depleted and inflation surged, the local currency plummeted further fueling inflation in Lebanon. In the absence of a structural social and economic reforms, the financial system collapsed, triggering commercial banks to impose severe capital controls preventing depositors accessing their own funds. That is why Lebanese depositors resort to bank heists at their local branches to access their own deposits.

–US central bank FED had its first pause in June since its first hike on March 16^th FED however reiterated its resolve to keep inflation in check insinuating that they may continue with their hikes for the rest of the year. FED’s decision was partially prompted by the slowing inflation as well as signs of a slowdown in the economy. Indeed the US unemployment data that came out on June 2^nd showed it had ticked up slightly to 3.7% from 3.4%, a 53 year low. The US core consumer price index reported on June 13^th showed that annual inflation slowed down once again, this time to 5.3% from 5.5% in May.

–Therefore FED’s rate decision in June indicated its continued hawkish stance, suggesting potential interest rate hikes in the future. This announcement impacted both equity and bond markets, leading to volatility and some adjustment in investor expectations. Case in point, as of June 28^th the US equity index S&P 500 posted a sizeable gain of 4.75% for the month of June, bringing its year to date returns to 14%. This was attributed to positive economic data, improved corporate earnings, and a generally optimistic sentiment among investors.

–Crude oil experienced a mixed month, influenced by global demand concerns and geopolitical tensions. Winter in Europe and North America turning out to be softer than expected has continued to weighed on the crude oil prices.As of June 28^th first month futures contract for US crude oil WTI  was up by 2.2% buffering its year to date loss to -13%.

–Gold fared worse than crude oil in June although its performance remained much better than crude oil on the year. As of June 28^th the first month futures contract for Gold was down by -3.3% on the month but managed to hold onto its gains from earlier in the year delivering 5% return year to date. Gold prices have come down as inflationary pressures have subsided over the last couple months.

–Bitcoin and Ethereum experienced rather divergent performance in June. Ethereum saw a decline of -2%, while Bitcoin recorded a gain of 11%. Cryptocurrency markets continued to be influenced by regulatory developments and positive market sentiment,. Bitcoin and Ethereum remained as one of the best investments of the year with 82% and 53% return respectively.

 –Volatility in Turkish stock market abated after the elections where Tayyip Erdogan was re-elected as President. As a result Turkish stocks had a decent come back with +17.9% return in June in local terms (-6% in US dollar basis) as of June 28^th. This brought the market’s year to date return back into the positive range with 4.5% in local terms (-25% in US dollar basis). The loss in US dollar basis was due to -28% loss in Turkish Lira against the greenback since the end of 2022. This was partially due to much lower than expected rate hike by the new Central Bank governor.

Unpredictability and volatility marked the month of June in global markets.  The market sentiment shifted with a pause in central bank rate hikes in North America. From slowdown in inflation to potential geopolitical upheavals and the upward performance of equities, June unleashed a series of twists and turns that kept investors intrigued as to what will come in the next phase of the markets.

Let’s start with some interesting news from Middle East which seemed to go unnoticed in financial markets, although it is noteworthy given its potential implications for countries in a similar situation. This is the recent series of robberies in Lebanon which have shaken the nation and raised serious concerns about the country’s financial stability. The interesting part is not the robberies, but that the regular people of the country have resorted to stealing basic supplies such as food, medicines, baby formula and diapers. Yet nothing is as unbelievable as the investors robbing their own bank to access their own deposits.

But how did Lebanon get there?

LEBANESE CENTRAL BANK TURNED TO ITS COMMERCIAL BANKS TO FILL IN THE HOLES IN ITS FOREIGN CURRENCY RESERVE

At the epicenter of this story is Lebanon’s Central Bank, the Banque du Liban and its governor of 30 years, Riad Salameh. He promoted a conservative and stable monetary policy after the civil war that helped transform the country and increase its living standards through easy money. However, plagued with widespread corruption and lack of effective regulatory oversight, the country struggled to pay its debt. As a solution the Lebanese Central Bank turned to its commercial banks to fill in the holes in its foreign currency reserves. Yet these bank reserves that the Lebanese Central Bank ”borrowed” were investors’ own deposits. As central bank foreign currency reserves got eventually depleted and inflation surged, the local currency plummeted further fueling inflation in Lebanon. In the absence of a structural social and economic reforms, the financial system collapsed, triggering commercial banks to impose severe capital controls preventing depositors accessing their own funds. That is why Lebanese depositors resort to bank heists at their local branches to access their own deposits!

The current financial situation is dire in Lebanon with inflation over 170%. The World Bank notes that the crisis in Lebanon is “likely to rank in the top 10, possible top three, most severe crisis episodes globally since the mid-19th century.” That is quite telling and is a stark reminder for countries dependent on external debt, with hyperinflation, starkly devaluing currency exacerbated by weak central bank policies.

FED FINALLY DECIDED TO PAUSE ITS RATE HIKES

Speaking of central bank policies, let’s discuss what has happened on the other side of the world. US central bank FED had its first pause in June since its first hike on March 16^th 2022 to take a breather to observe the effects of the rate hikes on inflation. FED however reiterated its resolve to keep inflation in check insinuating that they may continue with their hikes for the rest of the year. FED’s decision was partially prompted by the slowing inflation as well as signs of a slowdown in the economy. Indeed the US unemployment data that came out on June 2^nd  showed it had ticked up slightly to 3.7% from 3.4%, a 53 year low. The US core consumer price index reported on June 13^th showed that annual inflation slowed down once again, this time to 5.3% from 5.5% in May.

Therefore FED’s rate decision in June indicated its continued hawkish stance, suggesting potential interest rate hikes in the future. This announcement impacted both equity and bond markets, leading to volatility and some adjustment in investor expectations.

Case in point, as of June 28^th the US equity index S&P 500 posted a sizeable gain of 4.75% for the month of June, bringing its year to date returns to 14%. This was attributed to positive economic data, improved corporate earnings, and a generally optimistic sentiment among investors.

European markets had a similarly good month, as the Euro Stoxx 50 index went up by 3% in June bringing its year to date gain to 14.5%. The MSCI Emerging Markets Index EEM was up by 3.2% in June and 4% year to date.

What happened in other markets?

BOND RETURNS WERE RELATIVELY FLAT

The US bond market experienced some volatility in June, primarily driven by FED’s rate decision and key economic data releases. FED hinted at potential interest rate hikes in the near future, causing some fluctuations in bond rates, but after all was said and done returns were flat in June. As June 28^th Bloomberg Global Aggregate Bond Index was up by 0.1% on the month bringing its return on the year up to 3.1%. Bloomberg Global Corporate Bond and High Yield Bond Indexes were both up on the month 0.04% and 1.8% respectively, bringing their year to date returns to 3% and 4.6% respectively.

GOLD AND CRUDE OIL PRICES MOVED IN OPPOSITE DIRECTION

Crude oil experienced a mixed month, influenced by global demand concerns and geopolitical tensions. Winter in Europe and North America turning out to be softer than expected has continued to weighed on the crude oil prices. As of June 28^th first month futures contract for US crude oil WTI  was up by 2.2% buffering its year to date loss to -13%.

Gold fared worse than crude oil in June although its performance remained much better than crude oil on the year. As of June 28^th the first month futures contract for Gold was down by -3.3% on the month but managed to hold onto its gains from earlier in the year delivering 5% return year to date. Gold prices have come down as inflationary pressures have subsided over the last couple months.

CRYPTO MARKETS HAD DIVERGENT PERFORMANCE

Bitcoin and Ethereum experienced rather divergent performance in June. Ethereum saw a decline of -2%, while Bitcoin  recorded a gain of 11%. Cryptocurrency markets continued to be influenced by regulatory developments and positive market sentiment,. Bitcoin and Ethereum remained as one of the best investments of the year with 82% and 53% return respectively.

TURKISH STOCKS CONTINUED THEIR SLIDE

Volatility in Turkish stock market abated after the elections where Tayyip Erdogan was re-elected as President. As a result Turkish stocks had a decent come back with +17.9% return in June in local terms (-6% in US dollar basis) as of June 28^th. This brought the market’s year to date return back into the positive range with 4.5% in local terms (-25% in US dollar basis). The loss in US dollar basis was due to -28% loss in Turkish Lira against the greenback since the end of 2022. This was partially due to much lower than expected rate hike by the new Central Bank governor.

Let’s reiterate once again that market performance can be influenced by a multitude of factors, including economic indicators, geopolitical developments, and investor sentiment. Therefore, it is crucial for investors to stay informed and consider a diversified approach to navigate the ever-changing landscape of global markets.

ELA KARAHASANOGLU, MBA, CFA, CAIA

International Finance Expert

karahasanoglu@turcomoney.com

ela.karahasanoglu@ekrportfolioadvisory.com

https://www.linkedin.com/in/elakarahasanoglu/