Bonds set to benefit as currency gains spur more rate cuts
Hungary may be only months away from introducing a cap on the forint as attempts to ease monetary policy fail to thwart a rally, according to a money manager who outperformed more than 90 percent of his peers.
Viktor Zsiday of the Citadella Derivative Fund in Budapest said a limit similar to the one imposed in the Czech Republic may be one of the policy options central bankers explore if cutting rates to zero doesn’t work on its own. The forint, which reached a peak of about 307 per euro in February, posted its best quarter in a year from January through March, threatening to push Hungary back into a deflationary cycle as it drives down import costs.
“Reaching the zero rate this year will only be enough to keep the forint in the 300-315 per euro range,” said Zsiday, who oversees the $221 million Citadella fund at Concorde Asset Management and is bullish on longer-maturity Hungarian bonds. “At that point, they will need to consider their options and may opt to introduce a currency cap.”
The National Bank of Hungary, which says it doesn’t have an exchange-rate target, isn’t the only central bank grappling with a strong currency even as it loosens monetary policy to bolster the economy. Singapore unexpectedly moved to a neutral exchange-rate policy on Thursday for the first time since the global financial crisis, and the Bank of Canada warned that the loonie’s more-than-10 percent gain since the middle of January is starting to hurt the economy. Japanese officials, after switching to negative rates earlier this year, have had to raise their rhetoric on intervention after the yen reached a 17-month high.
The forint was the best performer in emerging Europe in the first two months of this year, climbing 1.7 percent against the euro. It was at 310.41 per euro on Friday. Among the currencies it beat is the Czech koruna, which the central bank has had a policy of keeping weaker than about 27 per euro since November 2013 to spur economic growth. A stronger currency can hurt an economy by making exports less competitive and weighing on prices.
Zsiday’s outlook for rates to drop to zero this year is more dovish than the market, with forward-rate agreements forecasting a decline in the key rate to about 0.75 percent from 1.2 percent now. Policy makers resumed a rate-cutting cycle in March after five reductions last year and a record 24 months of cuts that ended in 2014.
The money manager, whose fund beat 94 percent of its peers in the last three years with an annual return of 11.8 percent, predicts yields on 10-year bonds to fall by 100 basis points to less than 2 percent by year-end.
Remittances and the country’s trade surplus, now the highest since at least 2001, will underpin demand for the forint, Zsiday said. At the same time rate cuts will boost the value of local currency bonds, keeping foreign investors locked into their holdings, he said.
“Carry traders, who are more sensitive to lower interest rates, seem to have sold their positions,” he said.
Gabor Ambrus, an economist at Royal Bank of Scotland Group Plc in London, doesn’t see any need for Hungary to set a floor for the currency. The forint’s second-best forecaster in the first quarter predicted the currency will weaken to 318 per euro by year-end, a drop of more than 2 percent from the current rate. The estimate in a Bloomberg survey of economists is for a slide to 315.
“The National Bank of Hungary will ease policy conditions as long as necessary” as it needs a weaker currency to increase inflation, Ambrus said. “The toolkit the central bank currently has at its disposal is sufficient.”
Deputy Governor Marton Nagy has acknowledged the forint’s impact on inflation and growth is a factor rate-setters consider and said last month that Hungarian assets had rallied too far too fast, the central bank’s most explicit comments on the currency yet. Consumer prices fell 0.1 percent in March from a year earlier, the first decline since September, amid a drop in fuel prices.
Hungary’s “primary target is to keep the forint weakening in order to keep booking a profit on foreign-currency reserves,” Concorde’s Zsiday said. “The secondary goal is to support the government’s policy, and taming inflation is only third in line. They have been lucky not to have had any problems with prices so far.”’