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Central European Daily

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CNB likely to cut today by 25 bps

Thu, Oct 9 2008, 09:07 GMT
by KBC Market Research Desk

KBC Bank

Headlines

Currencies: CZK weaker despite a global rate cut
Fixed Income: CNB likely to cut today by 25 bps

Currencies

The Polish zloty had an extremely turbulent session as the EUR/PLN struggled to stay within the 3.40-.50 range yesterday. Eventually, the zloty managed to regain confidence following a violent correction early in the session, which brought the pair to a fresh 6 month highs. The coordinated CB rate cut was positive for sentiment and even though we doubt whether it will be enough to push the zloty back into strengthening mode just yet, in the short term it should sooth the extreme volatility seen most recently in the distressed market.

The Czech currency surprisingly eased yesterday despite the rate cut of the major central banks. The negative price action was probably related to market speculation on a domestic rate cut today (see more in the fixed-income section).

The Hungarian forint touched new lows in yesterday’s morning session at around 254.50, but the joint central bank actions helped it to recover to around 253.00. Some Latin American and Asian emerging currencies tumbled overnight triggering verbal and direct central bank interventions to cool down markets. The coordinated actions could help to ease fears for now as markets have priced in a very dark future and relief may help the HUF to stabilize first. The 252-254/€ range could be tested today for example.

The Slovak koruna further lives its own life, untouched by the global sentiment. It is in a moderate depreciating mood, oscillating close to EUR/SKK 30.40. The August industrial output figure showed the slowest growth in more than 3 years, increasing only by 0.9% Y/Y. This indicates that the decelerating euro zone economy is also having its impact on Slovakia.
The coordinated interest rate cut by major global central banks was not followed by the Slovak central bank. In its statement the bank said that it sees no need to immediately react to these cuts. The financial sector is in a good condition and has enough liquidity. Nevertheless, the central bank has to adapt its rates till the end of the year due to the euro zone entry.

Fixed income

Following a global 50 bps rate cut the Czech yield curve steepened in a bullish fashion yesterday, as the market started to bet on a similar move in the Czech Republic too. These market expectations were supported by Vice Gov. Miroslav Singer, who signaled that the Czech National Bank might cut interest rates on the non-interestrate meeting today. In our view this step (a 25 bps rate cut) is quite likely, though not certain because such a move would indicate that the Czech economy and financial system is also hit by the global financial crisis, something they had denied until now.

The coordinated rate cut puts the already questionable Polish rate hike later this month completely off the table. With more easing likely to come even this year from the Fed and the ECB, we can hardly imagine the MPC moderates will support the idea of a tightening move, particularly given the evident downtrend already in place in both growth and inflation. The labor market, which has so far been one of the main local factors standing behind the resilience to soften the policy stance markedly, is also showing signs of easing, with employment growth deteriorating fast and labor supply likely to receive a boost from reverse migration in the months to come. This said it seems that not even the ambitious goal to enter the EMU in 2012 (which was the only standing reason we had until now expected a hike this month) will be enough to push the MPC to further tightening. The question now is when the MPC will start to cut. The MPC met at an unscheduled meeting last night and issued a statement in which it stated that the impact of the recent action by CB’s on the inflation and growth outlook will be evaluated at the upcoming regular meeting in three weeks. Does this mean that a rate cut is in the making this month as some commentators have already suggested? Most likely not, we think, even if this has now become a distant option. The MPC might still be reluctant to make the shift to easing policy just yet given the lag with which the labor market reacts to the weakening in economic activity and the Euro zone entry plans. Also the Polish financial sector is in fairly sound condition with the exposition to toxic assets virtually nonexistent and strong liquidity coming from local sources (mainly deposits). Unless the zloty starts to appreciate at an uncontrolled pace, we think there is no need for rash decisions. Nevertheless the main central banks’ decisions will be eyed closely in the weeks to come. Further cuts by the ECB in the coming months are on the table and they will eventually force the NBP into easing policy quicker than we had expected. The first of a series of cuts is possible as early as in November, although we think it is more likely the cycle will begin early next year. With rates now expected to drop to 2.5% in the EMU, the scope for easing in Poland is widening as well. We now think at least four cuts by 100 bps in total (to 5.0%) are in the cards. Regarding the FI market this would point to some potential for steepening action for the Polish yield curve in the days to come, as the market starts pricing in the cut.

The Hungarian bonds reached this year’s record high levels at the short-end with yields of 10.30-10.40% at the 3-year maturity, while longer-dated 10-year yields stopped just below the March record at 8.75%. At current levels, Hungarian bonds offer ample spread over eurozone counterparties, so risk takers may start to use this situation as an entry point into the Hungarian convergence play. Today’s 10-year bond auction could be just a nice opportunity for this. Bids are accepted until 10:50CET.

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Published on  Thu, Oct 9 2008, 09:15 GMT