Bloomberg News

Bond Trust Rises as 2021 Debt Posts Biggest Gain: Poland Credit

October 17, 2011

Oct. 17 (Bloomberg) -- Growing investor confidence in Prime Minister Donald Tusk’s re-elected government is making Poland’s 10-year bonds the best-performing sovereign debt worldwide.

Government zloty bonds due in 10 years or more jumped 7.4 percent this month for the biggest gain in dollar terms among 144 debt indexes compiled by Bloomberg as of Oct. 14. The yield fell 20 basis points, or 0.2 percentage point, to 5.72 percent today, about half the rate of 11.69 percent for 10-year bonds sold by Portugal. The advance pared the extra yield relative to two-year zloty notes by 35 basis points to 127 basis points at 11:38 a.m. in Warsaw from a nine-year high on Sept. 22.

Polish bonds, the world’s third-worst performers last quarter, are rebounding after Tusk kept his parliamentary majority on pledges to cut the budget deficit to 2.9 percent of gross domestic product from 5.6 percent. The nation’s yields are the lowest compared with the average for emerging-market bonds since June and the tightest relative to Hungary since April 2009, JPMorgan Chase & Co. indexes show.

“The market was relieved at the election result,” Kieran Curtis, who helps manage $3.5 billion in emerging-market assets at Aviva Investors Ltd. in London, said by phone on Oct. 13. “It’s difficult to see much fiscal tightening happening in an election year, so now that’s out of the way I think the market hopes something will be done by the government.”

Poland is likely to show the biggest improvement in budget finances of any country in eastern Europe or the former Soviet Union next year, according to the International Monetary Fund’s World Economic Outlook report in September. General government borrowing may fall to 3.8 percent of GDP in 2012 from 5.5 percent this year, according to the IMF’s data.

Budget Trimmed

Tusk’s last administration trimmed the budget deficit from a record 7.9 percent last year by reducing state contributions to private pension funds, freezing wages of government workers and pledging to cap spending growth at 1 percentage point above inflation. His government also raised the value-added tax rate by 1 percentage point to 23 percent.

The next government will have to “act twice as fast” because of “even bigger challenges” ahead, Tusk said in a televised address after his Civic Platform and coalition partner, the Polish Peasants Party, won a total 235 seats in the 460-member parliament.

“You’ve had a combination in Poland of the election outcome being relatively comforting and the market concerns about the euro zone crisis dampening a little bit,” Kasper Bartholdy, an emerging-market analyst at Credit Suisse Group AG in London, said by phone on Oct. 14.

Default Swaps

The election helped turn around bondholder sentiment after the European Union’s largest eastern economy underperformed for the past 12 months because of concern a Greek default could undermine growth in the euro region, which buys 55 percent of Polish exports.

The zloty weakened 9.9 percent against the euro last quarter, the second-worst performance worldwide after the Belarusian ruble. The depreciation fueled concern defaults may rise among Polish households facing higher costs on foreign- currency loans, which account for 63 percent of mortgages according to the country’s financial regulator.

“There is a preference for shorter-term bonds because they are less risky and more liquid,” Ernest Pytlarczyk, chief economist at BRE Bank SA in Warsaw, said in a phone interview on Oct. 11. “Polish 10-year bonds are correlated to global sentiment and are unpredictable for local players.”

While Polish credit-default swaps cost 62 basis points less than the average for countries in eastern European, the Middle East and Africa included in Markit iTraxx SovX CEEMEA Index, the discount was 85 basis points a year ago.

Status Quo

Tusk’s plan to reduce the fiscal shortfall should help restore Poland’s advantage in the credit market, analysts at Barclays Capital including Piotr Chwiejczak in London, wrote in an e-mailed report on Oct. 14.

“With the political status quo seemingly assured post- election, we are confident the Polish government can build on its solid fiscal performance this year and, even in a more challenging growth environment, deliver the envisaged fiscal adjustments,” the Barclays analysts wrote. “Poland’s credit spreads should be well positioned to reverse its underperformance.”

The Polish swaps fell 16 basis points to 231 today, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market.

The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

Higher Debt

The zloty climbed 0.7 percent to 4.2726 per euro today, after rising 1.7 percent last week for the biggest weekly gain since Jan. 7, amid speculation European leaders are moving toward easing pressures on the banking system.

The additional yield on Poland’s 10-year bonds in zloty compared with their German equivalent in euros fell 2 basis points to 351 today. The gap reached the widest level since 2002 at 443 basis points on Sept. 22. The extra yield investors demand to hold Poland’s dollar bonds rather than U.S. Treasuries fell 18 basis points to 238.

While Tusk has been pruning the budget deficit, the country’s public debt is set to increase to 56 percent of GDP this year from 47 percent in 2008, according to the IMF. Only Brazil is more indebted among the largest emerging-market countries known as the BRICs at 65 percent. Poland’s debt is also higher than Mexico, Turkey, South Africa and Indonesia.

Austerity Trigger

Poland is rated A- by Standard & Poor’s, its seventh- highest investment-grade ranking, and A2 by Moody’s Investors Service, the sixth highest. The ratings are above grades for Mexico, Turkey, South Africa and Indonesia.

Boosting debt above 55 percent of GDP would force the government to enact mandatory austerity measures, according to the polish constitution. The ceiling helps to reinforce market confidence in Poland, according to Aviva’s Curtis.

“We do need to see some more determined reform in Poland to try and get the fiscal deficit down,” Curtis said. “The market has a reasonable amount of confidence that something will be done about it.”

--Editor: Wojciech Moskwa, Gavin Serkin

To contact the reporter on this story: Jason Webb in London at jwebb25@bloomberg.net.

To contact the editor responsible for this story: Gavin Serkin at gserkin@bloomberg.net


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