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Turkey 2016 Outlook

12 January 2016

Research Team +90 212 336 72 74

[email protected]

Table of Contents

Economic Outlook..........................................................................................2

Equity Strategy..............................................................................................31

Financial Picks..............................................................................................36

Non-Financial Picks......................................................................................41

Economic Outlook

3

Favorable growth prospects driven by domestic demand in 2016 Expected Contributions to 2015 GDP Growth Expected Contributions to 2016 GDP Growth

In 2016, we expect GDP growth to remain strong, driven mainly by private consumption demand.

The contribution of net external demand is likely to remain neutral.

3.8

0.6 0.8

2.7

-0.6

0.2

-1

0

1

2

3

4

5

GDP Priv Inv Public Priv Cons Stocks Net Exports

pps

3.5

0.2 0.4

2.7

0.4

-0.2

-1

0

1

2

3

4

5

GDP Priv Inv Public Priv Cons Stocks Net Exports

pps

Source: Turkstat, Finansinvest Source: Turkstat, Finansinvest

4

Private consumption demand to remain the main driver of growth in 2016

Private Consumption Demand Growth

Source: Turkstat, Finansinvest * Finansinvest’s forecasts

11.0

7.9

4.6

5.5

-0.3

-2.3

6.7

7.7

-0.5

5.1

1.4

4.1 4.1

-4

-2

0

2

4

6

8

10

12

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

*

2016

*

%

First set of measures on consumer loans

Second set of measures on consumer loans and

credit cards

Private consumption demand in Turkey has remained robust in the face of external and political shocks in the last couple of years.

We expect private consumption demand maintain its strength in 2016, in part due to the 30% hike in the national minimum wage.

5

30% hike in minimum wage to reinforce consumption demand

Distribution of monthly household disposable income by quintiles (2014)

Rates of Increase in the Minimum Wage and Annual Inflation

Turkey is notorious for raising minimum wage above inflation. In 2015, minimum wage was increased by 12% vs 8% inflation, further contributing Turkey’s wage inflation conundrum. However, the 30% increase in January 2016 far exceed any of the increases seen in preceding years.

A higher minimum wage would also push up other low level wages, which comprise approximately 60% of household income, as such pay levels are frequently linked or compared to the national minimum wage.

As low income earners have high propensity to consume, we expect the increased minimum wage to boost private consumption demand in 2016.

20.0

8.5 9.6 10.0

12.3

8.6

10.9 12.2

30.0

0

5

10

15

20

25

30

35

2008 2009 2010 2011 2012 2013 2014 2015 2016*

%

Min. Wage Increase (%)

Inflation (%)

Source: Turkstat, Finansinvest * Finansinvest’s inflation forecast

Source: Turkstat, Finansinvest

0

500

1000

1500

2000

2500

3000

3500

4000

4500

5000

1st 20% 2nd 20% 3rd 20% 4th 20% 5th 20%

TRY

Minimum Wage in 2015

60% of the households' income to be affected by the

minimum wage increase

6

Investment demand to maintain its recovery, but at a slower pace

Private Investment Demand Growth (bn TRY in 1998 prices)

Exports and Domestic Demand Growth**

2015 has been a year of revival in private investment demand. We expect the modest growth in investments to prevail in 2016 as both external and domestic demand would continue to be relatively strong at the same time.

Nevertheless, the pace of recovery is set to be slower compared to 2015.

-25

-15

-5

5

15

25

35

45

2007

2008

2009

2010

2011

2012

2013

2014

2015

*

2016

*

%

ConstructionInvestments

MachineryInvestments

-1

0

1

2

3

4

5

6

7

8

2013 2014 2015* 2016*

%

Exports Growth

Domestic DemandGrowth

Weak

Strong

Strong

Strong

Relatively Strong

Strong

Weak

Weak

Source: Turkstat, Finansinvest * Finansinvest’s forecasts ** Domestic demand comprises public and private sectors’ consumption and investment demand


7

Balanced net exports despite strong domestic demand Contribution of Net Exports to GDP Growth

Slight recovery in export demand will be offset by increasing import demand as a result of the strong domestic demand in 2016.

As a result, we expect the contribution of net exports to the economic growth to remain neutral in 2016, as was the case in 2015.

-2.4

-1.4

-0.3

-1.2

1.9

2.7

-4.4

-1.1

4.0

-2.6

1.8

0.2

-0.2

-5

-4

-3

-2

-1

0

1

2

3

4

5

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

*

2016

*

pps

Finansinvest’s forecasts


8

Exports in the last 2 years - recovering Europe, slump in CIS and Middle & Near East

12-month Exports to the M&N East and CIS Regions 12-month Exports to the EU-28 Region

European economies, accounting for more than half of the Turkish exports, are recovering and have been the main driver of exports in 2015.

The high growth elasticity of Turkish exports to Europe led to around 10% annual growth rates for Turkish exports to that region in the past two years.

Nevertheless, Turkish exports were hit very hard by the slowdown in the CIS and Middle and Near East regions, as a result of lower oil prices and geopolitical developments.

Source: Turkstat, Finansinvest Source: Turkstat, Finansinvest

10

11

12

13

14

15

16

17

18

25

27

29

31

33

35

37

39

41

43

45

12-1

102

-12

04-1

206

-12

08-1

210

-12

12-1

202

-13

04-1

306

-13

08-1

310

-13

12-1

302

-14

04-1

406

-14

08-1

410

-14

12-1

402

-15

04-1

506

-15

08-1

510

-15

US

D b

n

US

D b

n

M&N East

CIS - rhs

42

44

46

48

50

52

54

56

58

12-1

102

-12

04-1

206

-12

08-1

210

-12

12-1

202

-13

04-1

306

-13

08-1

310

-13

12-1

302

-14

04-1

406

-14

08-1

410

-14

12-1

402

-15

04-1

506

-15

08-1

510

-15

EU

R b

n

9

Recovery in Europe to limit the decline in Turkish exports in 2016

GDP Growth in Main Exports Destinations* YoY Growth in Exports

Strengthening European economy will support Turkish exports in 2016; however, overall exports will remain far below the 2014 level. On the other hand, the sanctions by Russia on Turkish exports cast a serious downside risk on exports.

The significant decline in gold exports to more normalized levels is to wipe almost USD 5bn off exports in 2016. Consequently, we expect exports to decline by 5%, but exports excluding gold to decline by 1.8% in USD terms in 2016.

A weaker Euro against the USD will be also another factor lowering the annual growth rate in exports in USD terms in 2016.

-8

-6

-4

-2

0

2

4

6

8

10

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

%

EU28

CIS

M&N East

Source: IMF, Finansinvest * 2016 data designates the IMF’s forecasts


13.0

-0.4

3.8

-8.4

-5.0

4.3

6.7

4.0

-11.4

-1.8

-15

-10

-5

0

5

10

15

2012 2013 2014 2015* 2016*

%

Exports

Exports excl. Gold

10

Low energy prices still lending a helping hand in lowering the Turkish trade deficit

12-month Energy Imports YoY Growth in Imports

Lower average oil prices in 2016, when compared to 2015, will lower the energy imports bill further from USD38.5bn to USD33bn, assuming an average Brent price of $45/bbl in 2016.

In this context, we expect a decline by 1.5% in imports, while imports (excluding energy) to increase by 1%. The weaker Euro will also effectively lower the annual growth rate in imports, as it will for exports.

Source: Turkstat, Finansinvest Source: Turkstat, Finansinvest * Finansinvest’s forecasts

$56bn

33bn

20

25

30

35

40

45

50

55

60

65

12-0

605

-07

10-0

703

-08

08-0

801

-09

06-0

911

-09

04-1

009

-10

02-1

107

-11

12-1

105

-12

10-1

203

-13

08-1

301

-14

06-1

411

-14

04-1

509

-15

02-1

607

-16

12-1

6

US

D b

n

-1.8

6.4

-3.8

-14.5

-1.5

-5.5

10.9

-4.3

-9.6

0.9

-20

-15

-10

-5

0

5

10

15

2012 2013 2014 2015* 2016*

%

Imports

Imports Excl. Energy

11

CAD/GDP to remain low below 5% in 2016

Current Account Deficit (12-month)

Current Account Deficit as % of GDP

Despite resilient domestic demand, the CAD will continue to decline in 2016 due to lower energy imports and growing exports to Europe.

We forecast a CAD of $34bn in 2016, corresponding to 4.6% of GDP.

-80

-70

-60

-50

-40

-30

-20

-10

0

10

12-0

904

-10

08-1

012

-10

04-1

108

-11

12-1

104

-12

08-1

212

-12

04-1

308

-13

12-1

304

-14

08-1

412

-14

04-1

508

-15

12-1

504

-16

08-1

612

-16

US

D b

n

CAD

CAD excl. Gold&Energy

Source: CBT, Finansinvest Source: CBT, Finansinvest * Finansinvest’s forecasts

7.9%

5.8%

4.5% 4.6%

$65bn

$34bn

2

3

4

5

6

7

8

9

10

11

0

10

20

30

40

50

60

70

80

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

*

2016

*

CAD/GDP (%, rhs)

CAD (bn USD)

12

Already down - but exports and services revenues from Russia are still significant Exports to Russia Tourism Revenues from Russian Tourists

Exports to Russia and share of Russians in the total number of tourists visiting Turkey already declined significantly in 2015.

However, Russia is still a significant source of revenues for the Turkish economy.

Source: Turkstat, CBT, Finansinvest * Finansinvest’s forecasts are used for November and December figures.

Source: Turkstat, CBT, Finansinvest * Finansinvest’s forecasts are used for Q4 figures. * Assumption: A Russian tourist’s spending in Turkey is equal to the average spending of all tourists visiting Turkey.

2.4

3.2

4.7

6.5

3.2

4.6

6.0

6.7

$7.0bn

$5.9bn

$3.6bn

0%

1%

2%

3%

4%

5%

6%

0

1

2

3

4

5

6

7

8

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015*

US

D b

n Exports to Russia

Share in Exports - rhs

9.2%

10.2% 10.8%

9.9%

10.8% 11.0% 11.4%

12.6% 12.5%

9.7%

0%

2%

4%

6%

8%

10%

12%

14%

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015*

US

D b

n Tourism revenues from Russians (USD bn)**

Share of Russian tourists - rhs

13

Turkey is also an important trading partner for Russia

Russian GDP Growth Imports from Russia

Turkey is also an important destination for Russian goods.

The share of exports to Turkey has increased, especially in the last two years as a result of the sanctions imposed on the Russian economy. Turkey was the fifth largest importer of Russian goods in 2014.

More than 60% of Russian imports to Turkey are comprised of refined or unrefined energy resources.

The fact that Turkey obtains more than half of its natural gas needs from Russia leaves Turkey dependent on Russian gas.

Source: Turkstat, Finansinvest * Data for the last two months of the year are Finansinvest’s estimates

Source: Turkstat, Finansinvest * IMF forecasts

-10

-8

-6

-4

-2

0

2

4

6

8

10

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

*

2016

*

2017

*

%

$21bn

6.1%

0%

1%

2%

3%

4%

5%

6%

7%

8%

0

5

10

15

20

25

30

35

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015*

US

D b

n Turkey's imports fromRussiaTurkey's share in totalimports from Russia - rhs

14

The impact on the Turkish economy would be significant, but not devastating

In our base case scenario, which we believe to be cautious, the total Russian impact on GDP through trade channel stands at 0.4pps. There would also be some impact from heightened uncertainty, a higher risk premium and higher rates.

Source: Turkstat, CBT, Finansinvest * Data for the last two months of 2015 are Finansinvest’s estimates ** A CBT report estimates that Russia has a 49% share in Turkey’s total shuttle trade. Based on this, we estimated the volume of the shuttle trade with Russia in 2015 by reducing the 2014 figure by the rate of decline in exports to Russia in the first 10 months of 2015. *** Finansinvest’s forecasts are based on total construction revenues, our equity analysts’ company views and our own judgment.

2015*

(USD bn) 2016

(USD bn) %

Change Difference (USD bn)

Share to be exported to alternative

markets

Net impact on exports (USD bn)

Dometic Value Added

Impact on imports through

less exports (USD bn)

Goods Exports: 3.6 2.1 -43% 1.5 35% 0.98 75% 0.2

Food related products exports 0.9 0.2 -80% 0.7

Other goods exports 2.7 1.9 -30% 0.8

Shuttle Trade to Russia**: 2.6 1.8 -30% 0.8 0% 0.80 60% 0.3

Tourism Revenues: 2.6 1.3 -50% 1.3 35% 0.85 80% 0.2

Construction&Other Services Revenues***: 0.7 0.4 -50% 0.4 20% 0.32 85% 0.0

Impact on goods&services exports: 2.9

Impact on goods&services imports: 0.8

Impact on the CAD: 2.1

Impact on the CAD/GDP: +0.29pps

Direct impact on the GDP: -0.28pps

Total impact on the GDP (multiplier=1.5): -0.42pps

15

The good news – the maturity of CAD financing keeps improving

Banks' Net External Borrowing (12-month cumulative)

Corporates' Net External Borrowing (12-month cumulative)

The good news is that a narrowing CAD is being accompanied by an improvement in the maturity of financing. Both corporates and banks are resorting to longer term external financing.

The change in the maturity of financing is especially striking for the banking sector. Thanks to the CBT’s dedicated measures punishing banks financing themselves with shorter term external funds and promoting the others, banks are now converting their debt to longer term.

Eurobond issues have also become a prominent source of CAD financing in the last two years.

-15

-10

-5

0

5

10

15

20

25

30

12-0

605

-07

10-0

703

-08

08-0

801

-09

06-0

911

-09

04-1

009

-10

02-1

107

-11

12-1

105

-12

10-1

203

-13

08-1

301

-14

06-1

411

-14

04-1

509

-15

US

D b

n

Banks' ST External Borrowing

Banks' LT External Borrowing-4

-2

0

2

4

6

8

12-1

102

-12

04-1

206

-12

08-1

210

-12

12-1

202

-13

04-1

306

-13

08-1

310

-13

12-1

302

-14

04-1

406

-14

08-1

410

-14

12-1

402

-15

04-1

506

-15

08-1

5

US

D b

n

Corporates' ST External Borrowing

Corporates' LT External Borrowing

Source: CBT, Finansinvest Source: CBT, Finansinvest

16

The good news – the maturity of CAD financing is improving

Ratio of Long-Term Financing* to CAD (12-month cumulative)

Composition of CAD Financing by Maturity (12-month cumulative)

The ratio of long-term financing to the CAD has climbed to 1.3, the highest level ever recorded.

Source: CBT, Finansinvest * Net FDI, private sector’s net LT borrowing , Eurobond issues by the private and public sectors ** Private sector’s net ST borrowing, banks’ deposits. Portfolio includes equities, domestic government and corporate bonds

0

10

20

30

40

50

60

70

80

90

100

110

120

130

12-1

003

-11

06-1

109

-11

12-1

103

-12

06-1

209

-12

12-1

203

-13

06-1

309

-13

12-1

303

-14

06-1

409

-14

12-1

403

-15

06-1

509

-15

%

-10

0

10

20

30

40

50

60

70

80

90

09-0

801

-09

05-0

909

-09

01-1

005

-10

09-1

001

-11

05-1

109

-11

01-1

205

-12

09-1

201

-13

05-1

309

-13

01-1

405

-14

09-1

401

-15

05-1

509

-15

US

D b

n

FDI and Long-term*

Portfolio and Short-term**

Source: CBT, Finansinvest * Net FDI, private sector’s net LT borrowing , Eurobond issues by the private and public sectors

17

Government to maintain fiscal discipline despite the higher minimum wage

Budget Deficit / GDP General Government Debt Stock (EU Defined, % of GDP)

We project an overall budget deficit of 1.3% of GDP in 2016 – in line with the target outlined in the Medium Term Program.

The government’s financing 12pps of the 30% increase in the national minimum wage, together with other election promises, are the main reasons preventing further improvement in the budget deficit.

On the other hand, the government will collect more tax revenues due to soaring consumption demand as a result of the higher national minimum wage. Additionally, the government will continue to widen the tax base. Also, the projected budget deficit still falls in a comfortable zone by international standards.

1.3%

0.6%

0

2

4

6

8

10

12

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

*

2017

*

%

34% 33% 31%

0

10

20

30

40

50

60

70

80

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

2017

%

Source: Ministry of Development, Finansinvest * Finansinvest’s forecasts

Source: Ministry of Development, Finansinvest * Finansinvest’s forecasts

18

It is not the public sector that matters so much as the private sector’s indebtedness Turkish Corporations' Net Short-Term FX Position Turkish Corporations' Net Long-Term FX Position

In contrast with the prudent public budget figures, budget balances in the private sector - more specifically non-financial corporations - have deteriorated significantly since 2011.

The deterioration has slowed down and short-term FX positions have improved recently.

We expect the net FX indebtedness of non-financial corporations to keep increasing, albeit at a lower rate than in the 2011-2014 period. The lengthening maturity will be a factor containing the risks stemming from corporations’ balance sheets, although this will remain a risk factor for the Turkish corporates.

4.4

10.3 10.0

-3.7

-0.5

-3.4

1.2

6.2

-5

-3

-1

1

3

5

7

9

11

13

2008 2009 2010 2011 2012 2013 2014 Aug-15

US

D b

n

-75 -77

-99

-114

-135

-167

-180 -183 -200

-180

-160

-140

-120

-100

-80

-60

-40

-20

0

2008 2009 2010 2011 2012 2013 2014 Aug-15

US

D b

n

Source: CBT, Finansinvest Source: CBT, Finansinvest

19

Higher net external debt due to borrowing from corporations

Turkey’s External Debt Stock / GDP Net External Debt Position / GDP (2015 Q2 data)

The high level of the CAD, fueled by external financing, has led to a rapid increase in Turkey’s net external debt in the last four years.

Turkey’s level of total net external debt is not considered high compared to other European countries. However, the pace of growth in net debt does give cause for concern.

-200

-150

-100

-50

0

50

100

Gre

ece

Cyp

rus

Por

tuga

l

Spa

in

Italy

Hun

gary

Sw

eden

Fran

ce

Pol

and

Slo

veni

a

Turk

ey

Lith

.

Latv

ia

Net

h.

Aus

tria

Bul

garia

Ger

man

y

Cze

ch

Bel

gium

%

52.5

31.7

0

10

20

30

40

50

60

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

Q2

%

Gross External Debt Turkey / GDP (%)

Turkey’s Net External Debt / GDP (%)

Source: Undersecretariat of Treasury Source: Undersecretariat of Treasury, Eurostat

20

Not a pleasant year ahead regarding the inflation outlook

Goods Inflation Services Inflation

The demand-pull impact of the increase in the national minimum wage on inflation will be limited as the economy is functioning below its potential. However, the cost-push impact could be material, especially on services inflation.

Due to the sharp minimum wage hike, we would see elevated levels of goods inflation, even if the depreciation of the TRY in 2016 is less than in 2015. More importantly, services inflation is likely to be in double digit territory.

7.7

6.1

8.7 8.3

9.9

7.0 7.2

12.0

5.8

7.2 8.0

8.8

7.5

0

2

4

6

8

10

12

14

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

*

2016

*

%

13.9

12.3 12.2

8.6

10.5

5.1 4.2

6.3 7.1

8.0 8.6 8.9

10.0

0

2

4

6

8

10

12

14

16

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

*

2016

*

%

Source: CBT, Turkstat, Finansinvest * Finansinvest’s forecasts

Source: CBT, Turkstat, Finansinvest * Finansinvest’s forecasts

21

Inflation to remain high throughout 2016 and end the year at 8.3%

YoY Inflation YoY Inflation

8.3%

3

4

5

6

7

8

9

10

11

12

13

01-0

806

-08

11-0

804

-09

09-0

902

-10

07-1

012

-10

05-1

110

-11

03-1

208

-12

01-1

306

-13

11-1

304

-14

09-1

402

-15

07-1

512

-15

05-1

610

-16

%

9.4

7.7

9.7

8.4

10.1

6.5 6.4

10.4

6.2

7.4 8.2

8.8 8.3

0

2

4

6

8

10

12

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

*

%

Source: Turkstat, Finansinvest Source: Turkstat, Finansinvest * Finansinvest’s forecasts

22

The same old structural problems - high and volatile food inflation, plus elevated FX pass-through

Cumulative FX Pass-Through* (Cumulative impact of every 1% depreciation)

Unprocessed Food Price Volatility (2007-2013, std. deviations of monthly changes)

0

1

2

3

4

5

Turk

ey

Hun

gary

Bul

garia

Cze

ch

Pol

and

Gre

ece

Rom

ania

Nor

way

Ger

man

y

UK

Sw

eden

Fran

ce

Den

mar

k

Net

her

Por

tuga

l

EU

-27

Italy

Spa

in

Irela

nd

Turkey’s high inflation is a structural issue.

The share of food in the CPI basket is one of the highest in Europe and also in the EM universe. This places a significant portion of the inflation basket beyond control of and insensitive to monetary policy. What’s worse, food prices are extremely volatile due to very long food supply chains and structural problems in the agricultural sector in Turkey.

The dependence of the manufacturing sector on imported intermediate goods also raises the FX pass-through effect to very high levels.

0

0.01

0.02

0.03

0.04

0.05

0.06

0.07

0.08

0.09

0.1

Tur

Isr

Idn

Thai

Hun In

d

Phi

l

Zaf

Cze Chl

Per

Mex

Rom P

ol Br

%

Source: World Bank * Taken from a WB report


23

Structural problems make Turkey’s 5% inflation target very hard to achieve

As a result of

• Highly volatile food prices, which have a very high share in the consumption basket,

• An extremely high FX pass-through due to use of imported inputs in the manufacturing sector,

• And the government’s unexpected tax hikes in some goods, inflation is highly exogenous, with an extreme level of uncertainty. That is why price setters add an uncertainty premium over prices, given that domestic demand is inherently strong in Turkey.

An analogy from fixed income pricing: Bond yield = expected real return+ inflation + inflation uncertainty premium + term premium Potatoes pricing = expected real return+ inflation + inflation uncertainty premium

What this means is that if you do see inflation falling to the CBT’s target of 5%, you can bet your last dollar that we are in the midst of a severe economic crisis. Note that Turkey was unable to curb inflation in the past couple of years despite modest domestic demand and deflationary pressures all around the world.

24

A more stable year ahead for the TRY

Real Effective Exchange Rate Against Currencies of Advanced Economies*

Annual Rates of Change in the TRY Against the Basket of USD and EUR

The markets have already largely priced in a slow and gradual rate cycle by the FED and slowdown in EM economies. In this context, we expect 2016 to be a more stable year for EM currencies.

The TRY would also continue to benefit from the very low levels of commodity prices.

We expect the USD/TRY and EUR/TRY to stand at 3.08 and 3.30 at the end of 2016.

Source: CBT, Finansinvest * Standard deviations are calculated for the period starting from January 2007

Source: CBT, Finansinvest ** Finansinvest’s forecast

95

100

105

110

115

120

125

130

135

140

145

01-0

706

-07

11-0

704

-08

09-0

802

-09

07-0

912

-09

05-1

010

-10

03-1

108

-11

01-1

206

-12

11-1

204

-13

09-1

302

-14

07-1

412

-14

05-1

510

-15

+2stdev

-2stdev

0.9

-7.4

11.5

-12.1

27.1

0.4

-1.9

21.4

-5.3

22.7

1.4

18.7

4.6

-15

-10

-5

0

5

10

15

20

25

30

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

**

%

25

CBT preparing to switch to an orthodox single-policy rate framework

CAD/GDP Ratios and Real Policy Rates CDS Premiums and ex-ante Real Policy Rates

Given the high risk premium, large CAD and elevated levels of inflation of Turkey , Turkey’s policy rate should be one of the highest, both in nominal and real terms. We think Turkey’s nominal policy rate should not be lower than around 9.25%, implying a real rate of 1% based on our inflation forecast of 8.3% in 2016.

A proper switch to an orthodox policy framework would be positive for the market as it would eliminate the monetary policy framework induced uncertainty and risk premium. However, we cannot rule out the risk of the CBT acting in an excessively dovish manner, bearing in mind the past bitter experiences.

Source : Bloomberg, Finansinvest Source : Bloomberg, Finansinvest * CDS figures show the 2015 averages. India has no CDS premium. We attach a symbolic CDS premium – 10% lower than the average of the remaining members of the Fragile 5 - to India to illustrate its real policy rate in the figure. ** 2016 Bloomberg inflation expectations are used to calculate the ex-ante real rates.

India

Indon

Malay

Phillip

S.Korea Thai

Brazil

Bulgaria

Czech

Hungary

Poland

Roman

Russia

Chile

Colomb

Mex

Peru

Israel

S.Afr

-3

-1

1

3

5

7

0 100 200 300 400 500

Rea

l Pol

icy

Rat

e* (%

)

CDS Premium

Peer group of Turkey

Level of Turkey's CDS premium

1.2 0.4 0.3

7.7

2.3

-0.4

1.8 1.6

0.3 -0.5

-1.5 -1.0 -0.9

-0.3

-0.1 1.3 -1.1

0.3 -0.1

-6

-4

-2

0

2

4

6

8

Col

ombi

a

Turk

ey

S.A

frica

Per

u

Bra

zil

Indo

nesi

a

Mex

ico

Indi

a

Rom

ania

Pol

and

Chi

le

Cze

ch

Bul

garia

Isra

el

Mal

aysi

a

Thai

land

Phi

llipp

ines

Hun

gary

Rus

sia

S.K

orea

%

2015 CAD/GDP forecast (%)

Real Policy Rate (%)

26

More jobs but also more people seeking for jobs in the Turkish economy...

Total and Non-Farm Employment (millions, seasonally adjusted)

Labour Force Participation Rate (%, seasonally adjusted)

Employment is growing in Turkey, which has supported the revival in domestic consumption demand.

Nevertheless, the labour force participation rate has also recorded a sharp increase since 2007, which implies that more people are seeking jobs.

4

5

6

14

16

18

20

22

04-0

708

-07

12-0

704

-08

08-0

812

-08

04-0

908

-09

12-0

904

-10

08-1

012

-10

04-1

108

-11

12-1

104

-12

08-1

212

-12

04-1

308

-13

12-1

304

-14

08-1

412

-14

04-1

508

-15

mill

ions

mill

ions

Non-farm employment

Agriculture - rhs

43

44

45

46

47

48

49

50

51

52

01-0

706

-07

11-0

704

-08

09-0

802

-09

07-0

912

-09

05-1

010

-10

03-1

108

-11

01-1

206

-12

11-1

204

-13

09-1

302

-14

07-1

412

-14

05-1

5

Source : Turkstat Source : Turkstat

27

… which makes unemployment rate remain eleveated.

Unemployment Rate (seasonally adjusted)

Consequently, unemployment rate has increased significantly since 2012.

Prospective minimum wage hike could further lead to increases in the participation rate and slow down the rate of employment gains. In turn, we can see a higher unemployment rate hovering around 11% in 2016.

10.4%

7

9

11

13

15

17

01-0

7

05-0

7

09-0

7

01-0

8

05-0

8

09-0

8

01-0

9

05-0

9

09-0

9

01-1

0

05-1

0

09-1

0

01-1

1

05-1

1

09-1

1

01-1

2

05-1

2

09-1

2

01-1

3

05-1

3

09-1

3

01-1

4

05-1

4

09-1

4

01-1

5

05-1

5

09-1

5

Non-agricultural Unemployment Rate (%)

Unemployment Rate (%)

Source : Turkstat

28

Key topics in the recently announced reform program of the government

Economy: Making commercial activity easier, reduction of costs on loans provided for machinery purchases, amendments/simplifications in the Income Tax Law, liberalization of the railway administration, reassessing and updating the Customs Union with the EU, enacting the public financial control law, establishment of specialized courts in different sectors, incentives for import substitution in intermediate goods etc. Education: Improving the capability of educators, rewriting the education curriculum in all stages of the education system, enhancing the foreign language capability of students, reorganization of technical schools and strengthening their link with industries etc. Technology&Innovation: Incentives for R&D activities, a new patent law, support for innovative investments, public purchasing guarantee for high-tech products etc. Employment: Part-time and flexible working as in the US etc. Improving Investment Environment: Measures to attract foreign capital, reduced bureaucracy in investment processes, easier acquisition of permits and licenses for energy production etc. Transparency: Political ethics law, fight against corruption, transparency in financing of parties, tax on real estate value increments stemming from changes in master plans, law on accountability in local administrations etc. Justice System: Reassessment of responsibilities of courts, faster judicial process etc. Increasing Savings: New regulations in private pension system to increase participation, incentives for institutional investors in financial markets, improving Islamic finance, improving energy efficiency in buildings etc. Other main areas of reforms: Public administration, environment, foreign affairs, local administrations, rights and liberties, democratization

29

The EU: A new anchor for the Turkish markets?

Turkey’s recent tensions with Russia and intensifying refugee flow from Syria to Europe have

paved the way for a revival of Turkey's accession process to the EU.

In this context, Chapter 17, which focuses on economic and monetary policy, has been opened. It necessitates a fully independent central bank which would add independence in the inflation target setting to its current operational independence. The opening of this chapter would soothe concerns regarding the independence of the CBT.

In addition to Chapter 17, five more chapters may be opened and the visa requirements for Turkish citizens could be lifted in 2016.

Although we do not consider Turkey’s accession to the EU possible in the medium or even in the long term, Turkey’s efforts to re-energize the accession process may be welcomed by the markets.

As part of the agreement on refugees between the EU and Turkey, where Turkey has been given the duty of stopping the flow of refugees, at least EUR 3bn will be provided by the EU to Turkey to ease some of the burden on Turkey. This amount would help offset the effect of the negative repercussions arising from the tensions with Russia on the Turkish economy.

30

Risks to Our Scenario

A new clamour of calls on the CBT to reduce rates, and an erosion in the CBT’s credibility. Note that a new Governor will be assigned in April 2016.

Another election for a change in the Constitution in order to switch to a Presidential System

Any escalation in geopolitical risks and terrorist activities in Turkey

A sharp rise in oil prices, although this seems unlikely in the current conjuncture

A further sharp strengthening in the USD

Equity Strategy

32

Equity Strategy

It was another grim year for emerging markets in 2015, which underperformed the MSCI World Index by 15%. It all started to

unravel for emerging markets at the end of 2010 and there is still no end of the underperformance in sight. One could come up with many reasons for this, such as the slowdown in EM economies, falling commodity prices, diminishing ROEs, political turmoil and the lack of focus on fundamental reforms.

Against such a backdrop for the EM universe, Turkish equities recorded a poor performance in 2015; the BIST 100 slid by 16% (33% in USD terms) in 2015. More alarmingly, Turkish equities slumped by 15% more than EM equities, which have underperformed developed markets for the last 5 years in a row. The blame cannot be put on economic growth; rather it was the combination of two elections (the first proving inconclusive), mounting political tension and even geopolitical risks, along with weak company ROEs (especially financials) and the lack of anchors that was responsible.

Although it may be too soon to reinvest in EM equities, we believe the underperformance of the EM area to the DMs will at least be slower, if not come to an halt, as the effects of the factors mentioned above run their course. Having said that, we still expect weak commodity prices and slowing economic growth, but also believe that their further effects are mostly priced in, so any downside will be limited. Also, we believe developed market equities have become a crowded trade, which may work in a favour of EMs once the FED’s policy is cleared up, especially after the second quarter of 2016.

As a major underperformer, should Turkish equities outperform the EM universe in 2016? The short answer is yes. We expect a better performance for Turkish equities in 2016, although the going is likely to be choppy in the first half of the year because of volatility in global markets. First, a relatively stable political environment is in place with no scheduled elections in sight. Secondly, economic growth will gain further momentum with the elevated level of private consumption boosted by the increase in the minimum wage. Thirdly, a softer devaluation of the TRY can be expected following the devastating run on the currency in 2015. In contrast to other countries whose currencies have suffered sharp devaluations against the USD, Turkey boasts much better public balances and benefits from falling commodity prices as an importer of commodities, while many of its peers are reliant on the export of commodities. Fourthly, such a macro backdrop is enabling a recovery in the state of corporate earnings.

33

Equity Strategy

We expect a better macro backdrop for Turkey in 2016 with solid private consumption resuming, a strong 3.5% GDP growth (with upside potential) and a milder depreciation of the TRY. On the other hand, we are not especially optimistic regarding interest rates as inflation remains a concern and ambiguity surrounds the CBT’s policy direction. Having said that, we believe the CBT’s simplification of its monetary policy (we are not believers of lower rates than the current funding rates, ceteris paribus) will ameliorate investor sentiment on Turkish interest rates. We also believe the global deflationary environment and low global rates will remain in place, prompting accommodative Central Bank policies to maintain an easy bias (we also concur with the market that the FED will not be able to follow the path of rate hikes implied by the FOMC ), which should help ease concerns over any upward pressure on interest rates. A possible return of capital flows to EMs would be a bonus.

Geopolitics has always been a major concern for investors. The risk has become more glaring recently with the downing of the Russian

jet. The Turkish economy already appears to be suffering from the widening scope of Russian sanctions (which may shave off 0.3 to 0.4 of a percentage point off GDP growth). The only glimmer of a silver lining on this rather dark and foreboding cloud is that exports to Russia had already plunged in the year before these events unfolded. However, the European continent is much more important for the Turkish trade account. Turkey enjoyed a surge in exports to Europe with the help of even a slight recovery in the EU, which should continue in 2016. Also, the EU’s contribution of nearly 3bn Euros to help refugees in Turkey’s territory should also alleviate the potential damage from the loss of the Russian trade.

As exports are expanding and commodity prices, especially prices of energy, are in freefall, Turkey is poised to post its smallest

current account deficit in 10 years (excluding the years of worldwide economic crises), of just 4.8% of GDP. While no one would claim this is an impressive figure by international standards, its significance for Turkey should not be understated. A strong performance for such a fragile metric should also improve investor sentiment for Turkey in the EM universe, where most countries are dependent on commodity prices or manufactured goods in an environment of slowing world trade.

34

Equity Strategy

Turkish companies with high domestic exposure should benefit from such an operating environment. We expect the companies under

our research coverage to post 23% growth in net income in 2016 compared to a 5% growth estimated for 2015. On the other hand, the earnings of Turkish corporates remained depressed in 2015 with FX-losses hammering the bottom lines of FX-indebted companies. With our forecast of a relatively milder depreciation of the TRY in 2016 as well as strong operating performances, we forecast a more robust 26% earnings growth for banks in 2016 compared with the 19% for non-financial corporations. This should push up the RoE for banks to nearly 13.4% in 2016 from the 11.7% in 2015 and for non-financials by 0.9pps to 15.3% in 2016.

At current valuations, the BIST-100 index is trading at a 2016F P/E of 8.1 (x) which implies a 24% discount to the MSCI EM index. This is deeper than the historical average discount of 7%. We believe that a domestic economy gaining momentum, rising exports to Europe, a narrowing current account deficit as well as a more stable domestic political landscape should help Turkish equities deliver a relatively robust performance in 2016. We calculate a BIST100 target of 92,000 for the end of 2016, assuming all companies under our coverage reach full valuation, suggesting 12-month upside potential of 29%; with 27% upside potential for the banks and 35% upside potential for non financials.

Among listed companies, we expect companies in the banking, real estate, retail and aviation sectors to notch up strong operating and earnings performances in 2016. Companies whose earnings were hit by severe FX losses in 2015, despite a robust operating performance, should also enjoy strong bottom-line growth in 2016.

Based on our forecasts, 2016 will be the first year that Turkish banks post a higher ROE than the previous year, propelled by NII expansion, improving fee growth, normalizing opex growth and general provision expenses. However, the expected ROE levels are still lower than last decade. That was the main reason why Turkish banks have underperformed non-financial companies since 2011 with falling sector RoE each year and flat earnings progression. However, Turkish banks’ earnings are now expected to grow 26% in 2016 . We expect RoE of Turkish banks to recover from 11.7% in 2015 to 13.4% in 2016 which should be a catalyst for the depressed sector stocks in general. Among banks, we favour Akbank for its strong capital base and comfortable loans/deposits ratio, we favour Garanti for having a narrower duration gap than the sector average and a proactive loan repricing strategy, Isbank for its better asset quality management and solid NII’s and Halkbank for its below-sector duration gap and an overpunished valuation.

35

Equity Strategy

Turkish non-financial companies enjoyed a strong operating performance in 2015, with their aggregate EBITDA rising by an estimated

26% - but net earnings languished, rising by a mere 7% according to our estimates. We expect to see a robust 19% aggregate earnings growth for Turkish non-financial companies in 2016 on strong operating performances and milder FX losses on a relatively firmer Lira. Among non-financial companies, we like Turkish Airlines (another high flying operating performance on a falling cost base), Yatas (continued growth and corporate restructuring as well as strong domestic exposure), Sabanci Holding (depressed valuation and recovery in the main business units), Tekfen Holding (improvement in core businesses with generally limited risk of downside), Turk Traktor (a strong local market and improving margins), Is REIT (balanced and safe portfolio with rising cash flow generation), Migros (strong organic growth, a recovering bottom line and an attractive valuation) and Turk Telekom (solid margins and improvement in earnings with a steep discount to peers as well as the best bet in the new competitive playing field of 4G).

A renewed focus by the government on economic reform, a more democratic constitution approved with the mutual agreement of the parties represented in parliament, the return of the EU as an anchor for the Turkish economy and politics, and a more delicate monetary policy would act as further catalysts to support our base scenario.

Major risks to our scenario would be the starting gun for the campaign for the referendum on a new constitution (although we find such a referendum highly unlikely as Turkish voters are fed up after four elections in the space of two years), a new monetary policy with an easing bias in the existing current macro backdrop, or a further escalation in tensions on Turkey’s southern borders.

Financial picks

37

Banking: Akbank

Financials (TRYmn) 2013 YoY 2014 YoY 2015F YoY 2016F YoY

Loans 110,676 26% 125,978 14% 144,637 15% 167,752 16% Assets 183,737 18% 205,451 12% 233,365 14% 267,900 15% Net profit 2,942 0% 3,160 7% 3,191 1% 4,114 29% Shareholders' Equity 21,339 -3% 25,112 18% 27,410 9% 31,039 13%

Key metrics 2013 2014 2015F 2016F

P/E(x)* 11.2 9.5 8.5 6.6 P/BV(x)* 1.5 1.2 1.0 0.9 NIM (%) 4.1 4.0 3.8 3.9 ROE (%) 13.6 13.6 12.2 14.1 ROA (%) 1.7 1.6 1.5 1.6 Dividend yield (%) 1.7 1.6 1.9 2.2 Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

Substantial improvement in 2016: Strong NII growth, improving fee growth and collection performance and normalizing general provision expenses are the main drivers of our earnings growth expectation for the bank. We expect Akbank’s RoE to improve from 12.4% in 2015 to 14% in 2016.

Comfortable loans/deposits ratio: This is undoubtedly an advantage in tight liquidity environment. As end-September 2015, Akbank’s loans/deposits ratio stood at 100%, well below the sector’s loans/ deposits ratio of 114%.

Conservative NPL coverage to buffer earnings: Akbank has the potential to manage its cost of risk ratio through decreasing its 95% NPL provisioning coverage, which is well above the sector NPL coverage of 74%. The bank’s RoAE also would have been 120bps higher, if its NPL coverage was in line with the sector.

Strong capital base for room to grow: Akbank stands out with its capital base, which should provide a competitive edge to the bank when Basel III regulations will come into force as of March 2016. As Turkey is forecast to experience another year of growth, the Bank will have an opportunity to extend loans when spreads are relatively higher.

Stock data OUTPERFORM

Bloomberg / Reuters AKBNK TI / AKBNK.IS

12m Target (TRY) 7.95

Current Price (TRY) 6.77

Upside to 12m target price (%) 17.4

52-week price range (TRY) 6.29-9.33

Mcap (USDmn) 8,970

Trading data 3m avg daily trading vol(USDmn) 67.4

Weight in ISE100 (%) 9.4

Beta (3 years, on weekly returns) 1.3

Free float (%) 52

Foreign ownership (% free float) Current 59.6

12m ago 52.9

Relative Performance to BIST100 (%)

38

Banking: Garanti Bank


Loans 118,671 29% 134,058 13% 161,346 20% 187,001 16% Assets 196,896 23% 218,919 11% 252,480 15% 286,238 13% Net profit 3,006 -2% 3,200 6% 3,571 12% 4,698 32% Shareholders' Equity 22,585 6% 26,001 15% 28,276 9% 32,060 13%

Key metrics 2013 2014 2015F 2016F


Only bank enjoying NIM improvement in 2015: Garanti Bank has widened its on B/S short FX position (almost fully hedged with swaps) throughout 2015, a strategy that helped the bank to support its NIM by 40bps in a period of rising deposit costs. However, the strategy also elevated its swap costs, which are recorded as trading losses under the P&L. In sum, the bank’s swap adjusted NIM of 4.4% is well above its peer average of 3.6%.

Selective growth in TL denominated business loans to defend the bank’s NIM in 2015: Garanti Bank opted to expand in TL denominated business banking loans, which are repriced more rapidly and hence have better loan yields while also relatively well-collateralized.

Favorable duration gap: Garanti Bank’s below sector duration gap also suggests that the bank will enjoy any improvement in loan-deposit spreads earlier than its peers.

Impressive earnings growth of 32% in 2016: Thanks to a 20bps expected improvement in its NIM and a strong NPL collection performance, we project Garanti to record an above sector RoAE of 13% in 2015. We expect the bank’s RoAE to improve above 15% in 2016 thanks to improving fee growth and normalizing opex and general provision expenses.


Bloomberg / Reuters GARAN TI / GARAN.IS





Mcap (USDmn) 9,878




Free float (%) 48


12m ago 76.7


39

Banking: Halkbank


Loans 84,848 29% 101,767 20% 125,560 23% 147,018 17% Assets 139,944 29% 155,423 11% 188,761 21% 213,651 13% Net profit 2,751 6% 2,206 -20% 2,320 5% 3,058 32% Shareholders' Equity 14,146 15% 16,536 17% 18,800 14% 21,498 14%

Key metrics 2013 2014 2015F 2016F


Privatizations of Halkbank’s insurance and pension arm postponed by Privatization Administration: We expect the privatizations to take place in 2016 and a profit of at least TRY1bn . Although we still do not incorporate the potential profit in our model, we estimate its valuation impact at around 10%.

One-off NPL burden now left behind: Halkbank set aside the last portion of the TRY700mn provisioning for the TRY1.1bn one-off NPL recorded in 3Q14 in 2Q15. The management stated that the company had been continuing its operations and expects to collect this NPL in the coming years, implying a prospective TRY700mn provision reversal under other income.

Rights issue unlikely in the short term: Note that Halkbank had announced its intention to raise its capital through an 80% rights issue in an attempt to provide capital for the bank’s new participation bank to be established. Yet, the management guides that this is not likely in the short-term.

Unjustified discount to its peers: Given its below sector duration gap and comfortable loans/deposits ratio of 102%, we expect Halkbank to stand out with its loan-deposit spread and loan growth performance in 2016. We expect the bank to record an RoAE of 15% for 2016. We no longer find its discount to peers to be justified.


Bloomberg / Reuters HALKB TI / HALKB.IS





Mcap (USDmn) 4,186




Free float (%) 49


12m ago 83.9


40

Banking: Isbank


Loans 135,280 26% 155,873 15% 188,247 21% 221,191 18% Assets 210,498 20% 237,770 13% 284,084 19% 324,253 14% Net profit 3,163 -4% 3,382 7% 3,141 -7% 4,062 29% Shareholders' Equity 23,579 4% 29,311 24% 29,489 1% 32,385 10%

Key metrics 2013 2014 2015F 2016F


A loan-deposit spread well above the sector: Isbank’s NIM is lower than the sector average as a result of its conservative accounting methodology for CPI linkers. Still, the bank’s loan-deposit spread is well above the sector, thanks to its much lower cost of deposits. The bank’s wide retail and demand deposit base allows the bank to refrain from irrational deposit pricing in this tight liquidity environment.

Fee growth faring better than the sector: We project that the bank will record 14% YoY fee growth in 2015 - better than our 9% fee growth forecast for the banks in our coverage. The bank recorded more than 20% YoY fee growth in almost all of its fee types in 9M15 except for credit cards and account keeping fees.

Asset quality performance far better than the sector: Although the management had to revise up its initial cost of risk guidance up by 20bps for 2015, due to a worse than expected NPL trend, Isbank’s CoR remained quite low in 9M15 at 79bps, vs. the sector CoR of 113bps.

Potential subsidiary sales may create significant value: We believe that Isbank may consider an IPO of Milli Reasurans or an SPO in Sisecam in the coming years. Such subsidiary sales could positively affect the bank’s price performance, as the bank’s holding like structure is the main reason behind its current discount to its peers.


Bloomberg / Reuters ISCTR TI / ISCTR.IS





Mcap (USDmn) 6,827




Free float (%) 31


12m ago 64.6


Non-Financial picks

42

Aviation: Turkish Airlines

Financials (TRYmn) 2014 YoY 2015F YoY 2016F YoY 2017F YoY

Revenues 24,158 29% 28,706 19% 33,677 17% 37,535 11% EBITDA 2,909 26% 4,524 56% 6,300 39% 7,236 15% Net profit 1,819 166% 2,720 50% 2,802 3% 2,890 3% BV 9,154 31% 11,875 30% 14,674 24% 17,488 20%

Key metrics 2014 2015F 2016F 2017F

EV/EBITDA(x)* 5.6 4.9 4.0 4.3 P/E(x)* 5.4 4.6 4.1 4.1 P/BV(x)* 1.1 1.1 0.8 0.7 ROE (%) 22.6 25.9 20.6 18.0 FCF Yield (%) 33.9 15.2 18.5 21.3 Dividend yield (%) 0.0 0.0 0.0 0.0 Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

Impressive operating performance intact: We expect THY’s FY16 top-line and EBITDAR to expand by 9% and 20% YoY in US$ terms, further enhancing the EBITDAR margin. 8% YoY CASK decline in US$ terms is to overcome 4% RASK decline resulting from FX movements and a lower load factor. We estimate further declines in fuel & personnel CASKs thanks to operational leverage and flattish oil price.

Potential revival in O&D traffic: Though YoY int’l transit traffic growth was impressive at 18% in 2015, THY’s origin & destination int’l traffic was almost stable. Increased social unrest due to terrorist attacks and political uncertainty can be blamed for this no growth environment. We expect O&D pax growth to gain momentum in 2016 driven by political stability and increasing global growth. We estimate 12% YoY traffic growth for THY in FY16.

The third airport is key to achieve LT targets: We expect THY’s traffic to expand by 5% CAGR in 2015-24. THY targets a 4.0% global market share (in ASK) vs. the current of 1.9% thanks to the under construction third Istanbul Airport at 150mn passenger capacity. The construction of the airport advances as scheduled and is expected to be completed by 2018.

Attractive discount to peers: THY trades at an average 35% discount to int’l peers based on 2016-17 multiples while offering a higher 18% EBITDA CAGR vs. 9% of the peers.


Bloomberg / Reuters THYAO TI / THYAO.IS





Mcap (USDmn) 3,333

EV (USDmn) 8,233


Weight in BIST100 (%) 3.3


Free float (%) 50


12m ago 67.7


43

Bedding & Furniture: Yatas


Revenues 274 27% 325 18% 404 24% 491 21% EBITDA 32 30% 36 12% 45 27% 56 24% Net profit 8 310% 7 -11% 10 35% 14 40% BV 82 9% 89 9% 99 11% 113 14%

Key metrics 2014 2015F 2016F 2017F EV/EBITDA(x)* 4.1 5.5 5.8 5.0 P/E(x)* 5.2 11.7 12.1 8.6 P/BV(x)* 0.5 1.0 1.2 1.0 ROE (%) 10.4 8.5 10.4 12.9 FCF Yield (%) n.m. n.m. n.m. n.m. Dividend yield (%) 0.0 0.0 0.0 0.0 Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

An impressive transformation plan still in play: The company started to collect the fruits of

its successful transformation plan with improved margins (EBITDA margin used to be averaging at 7.1% in the past 5 years, while we expect this to stay around 11.3% for the coming 5 years) mainly thanks to increasing number of high-margin self-owned stores (increased from 9 in 2009 to 69 in 2016F) .

A strong growth story to gain further momentum: Yatas generated a strong revenue growth (13% CAGR in the last 3 years; we expect this to accelerate at 19% for the coming 3 years) on the back of i) favorable demographics and a shortening replacement cycle in the sector, ii) new store openings under Enza Home (20 new stores in 2016F) and Yatas Bedding (19 new stores in 2016F) store concepts, iii) penetration into new markets and increasing export revenues (20 new stores abroad in 2016F).

Cheap multiples with attractive upside: The stock trades at 2016F P/E of 12.1x and EV/EBITDA of 5.8x, and is also more attractive with 2017F P/E of 8.6x and EV/EBITDA of 5.0x multiples indicating a 28% discount on its 2017F EV/EBITDA and P/E over its peers.

Enhancing investors’ perception: The company’s 3 months average daily trading volume almost tripled to USD1.1mn currently from 2014 average of USD0.4mn. Foreign ownership also jumped up to 24% currently from a mere 4% in the previous year.



Bloomberg / Reuters YATAS TI / YATAS.IS





Mcap (USDmn) 39

EV (USDmn) 70

Trading data 3m avg daily trading vol (USDmn) 1.1

Weight in BIST100 (%) n.a.


Free float (%) 54

Foreign ownership (% free float) Current 24

12m ago 4

44

Conglomerate: Sabanci Holding


Revenues 27,436 19% 30,449 11% 34,528 13% 39,469 14% EBITDA 4840 -2% 5173 7% 6395 24% 7,362 15% Net profit 2079 20% 2464 19% 2901 18% 3,491 20% BV 19,178 21,438 24,135 27,422

Key metrics 2014 2015F 2016F 2017F

EV/EBITDA(x)* - - - - P/E(x)* 9.1 7.8 5.6 4.6 P/BV(x)* 1.0 0.9 0.7 0.6 ROE (%) 11.5 12.1 12.7 13.5 FCF Yield (%) - - - - Dividend yield (%) 1.1 1.1 1.3 1.3 Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

A better macro backdrop for 2016: We expect a better macro backdrop in 2016 with continuation of strong private consumption and lower depreciation of TRY. Sabanci Holding should benefit from this environment being a Turkey proxy and generating 85% of its revenues locally.

Stronger banking and energy segment performance should be catalyst: With underperformance of banks during the last 4 years, Akbank has been a drag for the stock performance of the Holding in recent years. However, we expect a better earnings and hence market performance for banks in 2016 with strong NII and fee growth and normalizing general provision expenses. We forecast 29% earnings growth for Akbank in 2016. Also, Enerjisa, which is highly indebted and has low ROE, should record 18% EBITDA growth in 2016 (following 87% growth in 2015F) with Tufanbeyli and Bandirma power plants entering in effect (earnings creation should also bolster from 2017).

Unjustifiably cheap: Sabanci Holding trades at 41% discount to its NAV which we find unjustified. The stock also trades at an 15% discount to the sum of its listed assets, attaching no value to major unlisted assets such as Enerjisa and Philsa. We forecast 18% earnings growth for Sabanci Holding in 2016 while 2016 P/E stands very low at 5.6x.


Bloomberg / Reuters SAHOL TI / SAHOL.IS





Mcap (USDmn) 5,373

EV (USDmn) n.m.




Free float (%) 44


12m ago 64.8


2.4%

-5.3%

-7.8%

-3.8% -3.1%

-8.7%-10%-8%-6%-4%-2%0%2%4%

1M 3M 6M 1Y YTD 3Y

45

Contractor Holding: Tekfen


Revenues 4,475 16% 3,921 -12% 4,227 8% 4,250 1% EBITDA 188 n.m. 340 81% 398 17% 402 1% Net profit 56 n.m. 248 343% 304 23% 305 0% BV 1,996 5% 2,204 10% 2,406 9% 2,589 8%

Key metrics 2014 2015F 2016F 2017F

EV/EBITDA(x)* 10.0 5.2 3.7 3.3 P/E(x)* n.m. 6.9 5.0 5.0 P/BV(x)* 1.0 0.7 0.6 0.6 ROE (%) 2.9 12.0 13.2 12.3 FCF Yield (%) -20.0 -2.2 13.1 13.9 Dividend yield (%) 0.0 2.6 4.9 6.0 Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

Higher agri margins in FY16: One-off high ammonia cost and harsh depreciation of TRY undermined the agri performance in 2015. We estimate the agri-EBITDA margin to rise by 1.5 pps YoY in FY16 thanks to normalized ammonia price and a milder expected depreciation of TRY. Furthermore, the semi-integration investment at Samsun Plant is to become operational by 1Q16 which will further contribute to the operating profitability in FY16.

Contracting segment profitability in track: Following operating losses in 2013-14 due to write-offs, Tekfen’s contracting EBITDA reached at TRY137mn in 9M15, implying a 9.1% margin. We estimate a FY15 contracting EBITDA of TRY187mn, easing investors’ concerns on the segment’s profitability outlook.

ST catalyst - TANAP addition: We believe Tekfen, as the winner of Lot 3 project, is one step ahead in the upcoming TANAP tender (USD550mn). The project may serve as a catalyst for the stock. Even if failed, Tekfen’s all Shah Deniz projects constitutes 65% of the current backlog at US$2bn, providing a safety cushion for FY16 performance.

Discount to historic multiples: Tekfen’s FY16 multiples imply a 32% discount to its historic multiples since 2009. Furthermore, we estimate an improvement in ROE and FCF in FY16 to be accompanied by a higher dividend yield.



Bloomberg / Reuters TKFEN TI / TKFEN.IS





Mcap (USDmn) 472

EV (USDmn) 458




Free float (%) 41


12m ago 45.3

46

Farm Equipments: Turk Traktor


Revenues 2,723 25% 3,138 15% 3,429 9% 3,785 10%

EBITDA 331 -5% 411 24% 493 20% 561 14%

Net profit 260 -7% 252 -3% 341 35% 394 16%

BV 705 656 771 892

Key metrics 2014 2015F 2016F 2017F

EV/EBITDA(x)* 11.4 11.3 8.6 7.5

P/E(x)* 13.5 15.9 10.7 9.2

P/BV(x)* 5.0 6.1 4.7 4.1

ROE (%) 36% 37% 48% 47%

FCF Yield (%) 1.7% 2.5% 7.9% 8.9%

Dividend yield (%) 8.5% 7.5% 6.2% 7.5% Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

Local sales at full throttle: The Turkish tractor market has thrived in 2015 on the back of favourable weather and rainfall, good crop yields, government subsidies and lower oil prices. We forecast local tractor sales to have increased by 7% to c.64k units in FY2015, which will be an all-time sales record for the industry. For the next year, we forecast a 2% increase in overall sales on the continuation of favorable market dynamics.

Weak exports to stabilize in 2016. Due to weakness in major tractor markets, the company’s export volumes fell 13% in 2015. For 2016, we estimate a flat progression in exports as international markets are stabilizing.

Margin improvement to bring 20% EBITDA growth next year: Turk Traktor enjoyed enhanced EBITDA margins (up 145bps in 2Q15 and 310bps in 3Q15 YoY) driven by the completion of factory transition, the launch of 3 working shifts, continuing optimization in its factories and price increases in the domestic market. We forecast EBITDA margin to further increase by 130 bps to 14.4% in 2016, bringing in 20% YoY EBITDA growth

Attractive valuation: We find a rich 35% upside and the stock trades at 20% discount to peers on 2016 estimates. 6.2% dividend yield for next year is also an additional positive.


Bloomberg / Reuters TTRAK TI / TTRAK.IS



Upside to 12m target price (%) 35


Mcap (USDmn) 1,202

EV (USDmn) 1,396




Free float (%) 24


12m ago 74.5


0.8% 4.8%16.4% 10.0%

-1.3%

97.3%

-20%0%

20%40%60%80%

100%120%

1M 3M 6M 1Y YTD 3Y

47

REIT: Is REIT


Revenues 234 -37% 255 9% 354 39% 275 -22% EBITDA 97 -32% 110 14% 202 83% 220 9% Net profit 87 -25% 249 186% 169 -32% 183 8% BV 1,156 5% 1,261 44% 1,369 8% 1,420 4%

Key metrics 2014 2015F 2016F 2017F

EV/EBITDA(x)* 12.0 14.9 8.9 8.5 P/E(x)* 12.5 4.6 7.4 7.2 P/BV(x)* 0.7 0.9 0.9 0.9 ROE (%) 7.3 10.1 12.3 12.9 FCF Yield (%) -17.4 -19.1 15.1 16.5 Dividend yield (%) 3.6 4.1 5.7 5.2 Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

FY16 FCF yield of 17% to reach at 30% in FY19: While Is REIT delivered negative cash flows in 2013-15, we calculate 16% yield in 2016-18 with the completion of three on-going projects.

Investment in high return projects to support ROE: Is REIT is to reach at gross leasable area (GLA) of 219K sqm in 2016, while additional capacity growth is to continue until 2018, implying a 35% CAGR. The company will add respective 33K and 285K sqm GLA in 2016 and 2018. We calculate 20% IRR for the upcoming GSA and 8.5% yield for the GLA. Is REIT’s ROE is to reside above 12% starting with FY16 vs. the historic 6-7% level.

6% dividend yield starting with FY16: The usual dividend pay-out ratio stands at 5-7% of paid-in capital, implying 4% yield in FY15. The management guides for a similar growth in dividend-payout ratio in line with expansion in recurring revenues, hence we expect a hefty and sustainable 6% dividend yield starting with 2016.

Balanced and safe portfolio with stable income: Is REIT offers a resilient valuation with half of the target value derived from rental assets. Is REIT carries on the pre-sales of NishIstanbul and Manzara Adalar projects – contributing to the target value by respective 26% and 2%.


Bloomberg / Reuters ISGYO TI / ISGYO.IS





Mcap (USDmn) 435

EV (USDmn) 594




Free float (%) 48


12m ago 27.5


48

Retail: Migros


Revenues 8,123 14% 9,448 16% 10,993 16% 12,638 15% EBITDA 490 13% 576 18% 626 9% 743 19% Net profit 99 n.m. -308 n.m. 104 n.m. 131 26% BV 909 9% 601 -34% 705 17% 836 19%

Key metrics 2014 2015F 2016F 2017F EV/EBITDA(x)* 9.3 8.0 7.1 6.5 P/E(x)* 28.9 n.m. 27.5 21.8 P/BV(x)* 3.1 4.7 4.0 3.4 ROE (%) 10.8 n.m. 14.7 15.6 FCF Yield (%) 8.3 12.8 14.9 18.5 Dividend yield (%) 0.0 0.0 0.0 0.0 Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

Reaping the fruits: Migros has targeted strong customer traffic growth through a higher share of private label and fresh products along with a focus on small-store openings. As a result, Migros attained 17% revenue growth in 9M15 (including a solid 11% LFL growth) - significantly better than the 10% average over the previous 3 years, with Migros confident that it will sustain high growth.

Solid margins sustained: Migros is well on the way to reaching a scale in private label products which will enable the company to generate better margins from this segment. We also believe Migros will succeed in price differentiation among store formats (for example, convenience stores).

With all attention on FX debt, cash generation is overlooked: Migros had a EUR 704mn short position as of the end-9M15, 94% of which is long-term. We expect some deleveraging over the next three years thanks to the solid free cash generation, averaging TRY440mn per year (average yield of 14%) as well as lower volatility in the TRY.

Good value: Migros underperformed the BIST100 by 10% in 2015, entirely due to the weakness of the TRY, despite an operational improvement in the nine month results. It should also be borne in mind that the exit price of BC Partners, at TRY 26.86, was 68% above the current share price.


Bloomberg / Reuters MGROS TI / MGROS.IS





Mcap (USDmn) 944

EV (USDmn) 1,605




Free float (%) 19


12m ago 28.3


-3.6%-0.6%

-11.0%-14.4%

-7.4%

-18.9%-20%

-15%

-10%

-5%

0%

1M 3M 6M 1Y YTD 3Y

49

Telecom: Türk Telekom


Revenues 13,602 4% 14,403 6% 15,628 9% 17,292 11%

EBITDA 5,047 1% 5,237 4% 5,969 14% 6,549 10%

Net profit 2,007 54% 1,263 -37% 2,570 117% 2,852 11%

BV 6,303 18% 5,652 -10% 7,139 26% 7,632 7%

Key metrics 2014 2015F 2016F 2017F

EV/EBITDA(x)* 4.8 5.0 4.3 3.7 P/E(x)* 9.0 14.3 7.0 6.3 P/BV(x)* 2.9 3.2 2.5 2.4 ROE (%) 31.8 22.0 36.0 37.4 FCF Yield (%) 8.7 2.3 1.3 9.0 Dividend yield (%) 5.1 10.2 6.4 13.1 Source: Company financials, FinansInvest estimates. / *Average mcap used in historical multiple calculation.

Vast opportunities in the 4G world: Türk Telekom has built a good track record in bundling and cross/upselling so far as it prepares to move to a higher platform with the introduction of 4G-supported services. We believe this is the time for Türk Telekom to successfully execute its well-designed strategy. We expect high growth segments to gain further momentum.

Integrated service portfolio to drive customer growth. ARPU will be boosted from lucrative segments such as mobile, broadband and TV. One-stop solutions for subscribers in a fast-moving world will restore loyalty and considerably reduce churn.

Solid earnings growth with enhanced margins: We forecast a 12% CAGR in EBITDA over the next two years, compared to the 10% total CAGR expected for revenues. This suggests an improvement in margins thanks to upbeat data consumption. Net profitability will soar in 2016 on lower FX charges on a weak base.

Attractive discount to peers, seasoned with better growth and dividends: Türk Telekom shares currently trade at c.44% discount to its international peers. Growth and profit prospects are incomparably favorable; we calculate a 0.8x PEG for 2016 – barely a third of its peer group’s levels. Dividend yield is set to average 10% for the next 2 years, vs. its peers’ 3% median.


Bloomberg / Reuters TTKOM TI / TTKOM.IS





Mcap (USDmn) 6,029

EV (USDmn) 9,269




Free float (%) 13

Foreign ownership (% free float)

Current 74.4

12m ago 77.4


-5.1%

-10.8%-13.1%

-3.1% -3.9%

3.7%

-15%

-10%

-5%

0%

5%

1M 3M 6M 1Y YTD 3Y

Analyst Certification The following analysts hereby certify that the views expressed in this research report accurately reflect their own personal views regarding the securities and issuers referred to therein and that no part of their compensation was, is, or will be directly or indirectly related to the specific recommendations or views contained in the research report: Tolga Kotan, I. Burak Kanli, Ozgur Ucur, Gaye Abidin, Can Alagoz, Mehmet Alp Ertekin, İlknur Kocaer Unless otherwise stated, the individuals listed on the cover page of this report are research analysts. Disclaimer All information enclosed in this document has been obtained from sources believed to be reliable. While FINANSINVEST has spent reasonable care in verifying the accuracy and completeness of the information presented herein, it cannot be held responsible for any errors, omissions or for consequences arising from the use of such information. This document is published for purposes of providing information to investors who are expected to make their own investment decisions without undue reliance on this report. Therefore, no article or statement can be construed as an investment advice or a solicitation to buy or sell the securities mentioned herein. The affiliates, officers, partners and employees, including persons involved in the preparation or issuance of this material may have a direct or indirect position in any security mentioned in this report. Disclosure For U.S. persons only: This research report is a product of Finans Yatirim Menkul Degerler A.S. (“FINANSINVEST”), which is the employer of the research analyst(s) who has prepared the research report. The research analyst(s) preparing the research report is/are resident outside the United States (U.S.) and are not associated persons of any U.S. regulated broker-dealer and therefore the analyst(s) is/are not subject to supervision by a U.S. broker-dealer, and is/are not required to satisfy the regulatory licensing requirements of FINRA or required to otherwise comply with U.S. rules or regulations regarding, among other things, communications with a subject company, public appearances and trading securities held by a research analyst account. This report is intended for distribution by FINANSINVEST only to "Major Institutional Investors" as defined by Rule 15a-6(b)(4) of the U.S. Securities and Exchange Act, 1934 (the Exchange Act) and interpretations thereof by U.S. Securities and Exchange Commission (SEC) in reliance on Rule 15a 6(a)(2). If the recipient of this report is not a Major Institutional Investor as specified above, then it should not act upon this report and return the same to the sender. Further, this report may not be copied, duplicated and/or transmitted onward to any U.S. person, which is not the Major Institutional Investor. In reliance on the exemption from registration provided by Rule 15a-6 of the Exchange Act and interpretations thereof by the SEC in order to conduct certain business with Major Institutional Investors, FINANSINVEST has entered into an agreement with a U.S. registered broker-dealer, Marco Polo Securities Inc. ("Marco Polo"). Transactions in securities discussed in this research report should be effected through Marco Polo or another U.S. registered broker dealer.

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Turkey 2016 Outlook - finansinvest.com › ... › Turkey_2016_outlook.pdf · on consumer loans and credit cards Private consumption demand in Turkey has remained robust in the face