Battered Turkey ETF Offers Discounts

The woes of the iShares MSCI Turkey ETF (TUR) are well-documented. TUR, the lone Turkey-specific ETF, was one of 2012's top-performing emerging markets ETFs. It was no slouch through the first five-plus months of this year, either, gaining 14 percent from the start of the year through mid-May as other emerging markets ETFs wilted.

Then came the worst civil unrest since Prime Minister Recep Tayyip Erdogan took power a decade ago. Turkey, once hailed as the beacon of economic stability and allure in the Arab world, showed investors it has much in common with other parts of the developing world. That is not a good thing when investors realize a country's bonds, equities and currency market can be undone by Arab Spring-type protests.

Since May 13, investors have pulled almost $64.4 million from TUR after pumping $300 million into the ETF for the 12 months ending May 27. And since May 13, the ETF has plunged nearly 25 percent, putting the now $640.5 million fund firmly in bear market territory.

In fact, TUR has actually performed worse than Turkey's benchmark Borsa Istanbul-100 Index. Since May 22, the index is off 22 percent, but the ETF has plunged 25 percent. One byproduct of that decline is Turkish stocks, previously considered richly valued as investors poured into the market due to favorable demographics and anticipation of an investment-grade credit rating, are now inexpensive.

Last week, the Borsa Istanbul-100 traded yesterday at 9.2 times the next year's estimated earnings, near the lowest since July 2012, according to Bloomberg. That represents a slight discount to the 9.9 times forward earnings the MSCI Emerging Markets Index trades at .

TUR highlights the discounts now available with Turkish stocks. The iShares MSCI Emerging Markets ETF (EEM), of which Turkey accounts for a scant percentage, has a P/E of over 18. TUR's P/E ratio is 12.44, indicating the fund trades at more favorable valuations than the comparable Brazil ETF or the iShares MSCI South Korea Capped ETF (EWY). EWY has recently been praised for being home to scores of cheap stocks.

More Risks
The strong lira was one of the factors that helped boost TUR and its holdings in the past because Turkey, unlike some larger emerging markets, is not export dependent. It was a robust domestic economy and sturdy currency that increased the allure of Turkey to foreign investors, but in the wake of the protests, the lira has plunged, making the currency one of the worst-performers in the developing world.

As a result, Turkey's central bank, one with a reputation for acting quickly, is now mulling rate hikes just two months after cutting rates to 4.5 percent and saying it could go as low as 2.5 percent.

The falling lira has weighed on bond ETFs with exposure to Turkish debt denominated in the local currency such as the iShares Emerging Markets High Yield Bond ETF (EMHY) and the Market Vectors Emerging Markets Local Currency Bond ETF (EMLC).

Risks to Turkish stocks do not end with dismal-looking credit markets. Some investors have pointed to Turkey as one emerging market particularly vulnerable to Federal Reserve tapering of quantitative easing. Then there is Erdogan's plan to hold elections as soon as 2014, an event that could stir an already fractious political environment and further pressure Turkish bonds and equities.

Those looking for positives about TUR can point to two factors. First, some investors see opportunity for the patient, such as those with 12-month or long time horizons. Second, when Turkish stocks were cheap in July 2012, TUR surged 27.8 percent from the start of that month through year-end.

BY Todd Shriber, ETF Professor