Mixed result of Czech bond auction

Headlines

Currencies: Forex intervention of the Polish MinFin temporary lifted CE currencies
Fixed Income: Mixed result of Czech bond auction
NEWS: World Bank president calls for EU-led support for C&E Europe

Currencies

The Czech koruna recouped part of it losses helped by hawkish CNB talk and by forex intervention of the Polish MinFin. So as a result, the EUR/CZK dipped deeply below the 29.00 level. Hence, uncoordinated interventions from the Czech and Polish authorities have worked so far. And the koruna might temporary extend it gains as another (temporary) positive factor for Central Europe could be the comments from World Bank president Robert Zoellick, who has called for European Union-led coordinated global support for the economies of central and eastern Europe in today’s Financial Times. However such an action is far away and that is we still remain bearish for the koruna at least until global equity markets stabilize.

The EUR/PLN staged a massive comeback lower as officials scrambled to support the besieged zloty yesterday. The move got off to a jump start after the government officials hinted that Poland was already in talks with the ECB on ERM-2 entry and indicated that the mechanism would be introduced without changes in the constitution. Legislation convergence was seen as one of the major obstacles on the road to the euro and while the move might be risky in the long run as the government will have to ensure the changes are introduced while in the ERM-2, the declaration was obviously a positive surprise. The strength of the rebound was reinforced later in the day when the FinMin started to exchange EU funds directly in the market. On top of this, rate cut expectations have come down significantly as other central banks in the region indicated that hikes may be on the table to support the battered currencies. Yesterday’s move may very well be continued as the government evaluates the efficiency of its actions. We think it’s a fair bet that the FinMin will again step into the market if the PLN shows signs of renewed weakness, especially since fairly small sizes tend to translate into huge prices moves. Hence it seems, the hypothesis that the worst is over for the zloty again gains merit.

Fixed income

Czech bonds yesterday weakened. Hawkish comments of Vice-governor Singer sent a short end of curve upward, and 2Y government bond yield rose by almost 30 basis points. The yield rise was recorded also at the long end of the curve (around 20 basis points). Unsuccessful was also the auction of eight-year government floater, in which the Finance Ministry sold only 4.63 bn CZK from total amount of 10 bn CZK. Bids totaled 6.6 bn CZK, down from 9 bn CZK at the last auction. The ministry had set the initial coupon at 4.28% and the average yield reached 126.401 basis points above PRIBOR. Today, in the absence of major domestic data, the mood on the Czech bond market will remain gloomy. Despite yesterday's correction the koruna is still weak and the prospect of reducing the rates, therefore, uncertain. Moreover, the Czech bond market is negatively affected by the problems of fixed income markets in other central and eastern European countries.

Polish bonds were hesitant to follow the zloty higher in prices, but eventually the long end of the curve inched lower by up to 20 bps as the PLN made a massive comeback on government action. The market should extend the gains across the curve today in a follow up move as all eyes shift back to the eco calendar, which heats up with the all-important IP numbers. We are looking for a soft output reading in January (-10% y/y) as the sector continued to struggle with (foreign) demand and scaled down its operations. The number of day effect weighed to the downside of the reading this time, and the deseasonalised numbers should show comparably bad (negative) dynamics as in December. The market is even more pessimistic with the consensus set at 11.5% y/y. A double digit annual drop, coupled with more zloty strength could reinstall expectations for a cut next week, so we would look for potential for gains at the short end of the curve.

The Hungarian Bond market collapsed again and yields reached new record high levels, while the 5y5y forward spread has widened to an all-time high of 440bp. Interestingly, the forint has started to recover after reaching new lows triggered by the rally of its Polish peer after talks about ERM-2 entry for the PLN was restarted. Rate hike talks have also returned, in Hungary the FRA curve is now pricing in some 75bp hike for the next 3-6 months. Is this the trend reversal for EMEA FX? Who knows, but we would bet that we can be close to the turning point. Not because of the Polish ERM-2 story, but because of the rate hike prospects, which could allow the market to price in additional premium to finance these troubled economies for a year or so until growth begins to recover from domestic savings instead of euro bank loans. Default risk is still present, so there is not a free-ride for renewed HUF longs, but we do not expect default to occur in a next step. Indeed, governments/EU/IMF have the tools to improve the budget, nationalise banks or to create liquidity facilities. For example, if Hungary would nationalise private pension fund contribution (8% of wages), the budget would get close to balance.

•   Download Full Central European Daily