BlackRock Sees Best Bond Rally at Risk on Orban Defiance

Hungary's Prime Minister Viktor Orban
Viktor Orban, Hungary's prime minister. Photographer: Jock Fistick/Bloomberg

The world’s best bond and currency rally risks reversing as Hungarian Prime Minister Viktor Orban stalls on conditions for a bailout, according to BlackRock Inc., Citigroup Inc. and Royal Bank of Scotland Group Plc.

The forint, the worst performer in the second half of 2011, rebounded 9 percent against the euro this year as government bonds returned 28 percent in dollar terms through the end of last week, the biggest gains among 170 countries monitored by Bloomberg. The cost of options contracts show traders are the least bearish since August. The forint depreciated 0.9 percent to 291.96 per euro by 4:14 p.m., the biggest drop in almost two weeks on a closing basis.

While investors are betting a deal with the European Union and International Monetary Fund will rescue Hungary in time to repay its 15 billion euros ($20 billion) of debt due this year, Orban has yet to change laws the lenders say threaten the independence of the central bank and the judiciary.

“I would now be cautious about investing in the forint and Hungarian bonds following the rally that we had,” said Beata Harasim, who helps manage the equivalent of $36 billion of fixed-income assets for BlackRock, the world’s largest asset manager. “The Hungarian government hasn’t yet taken sufficient steps to bring its media and central bank laws in line with the EU requirements. We don’t have solutions here,” she said in a March 1 telephone interview from London.

Stop Buying Bonds

Concern that Hungary may be months away from starting bailout talks led Citigroup to tell investors to stop buying the country’s benchmark 10-year bonds, Luis Costa, a London-based strategist at the bank, wrote in an e-mailed report today, after meetings with officials in Budapest last week.

“We sense that the market has become quite complacent towards the IMF-EU negotiations,” Costa wrote, closing a trade recommendation to buy June 2022 bonds that was started on Feb. 13. “We found that there is no time line for the start of the negotiations.

A second day of declines in the 10-year notes lifted yields 10 basis points to 8.667 percent.

Societe Generale SA recommends selling the forint against the euro and targeting a weakening of the Hungarian currency to 300, Guillaume Salomon, an emerging-markets strategist, wrote in an e-mailed note on March 1.

Hungary, the EU’s most indebted eastern nation, became the first member to receive an IMF-led bailout during the global credit crisis in 2008. Orban, since coming to power in 2010, has nationalized $14 billion of private pension funds and levied extraordinary taxes on energy, financial, retail and telecommunication companies to push the budget deficit below the EU limit of 3 percent of gross domestic product.

Forint Rebound

The forint and Hungarian bonds rebounded this year after Orban said Jan. 5 he was ready to meet conditions for a “quick” assistance package from the IMF.

Traders paring their bets against the currency sent the so-called 25-delta risk reversal rate for the forint versus the euro to within three basis points of the least bearish level since August at minus 3.6 percent on March 2, compared with minus 5.97 percent on Jan. 9. A negative rate signals greater demand for forint puts, or the right to sell, relative to calls, or the right to buy the currency. The risk reversal rate last traded at minus 3.7.

Hungary is likely to obtain a bailout and that will support the forint, Koon Chow, a London-based strategist at Barclays Capital, said in a phone interview on March 1.

“We have been bearish,” Chow said. “Probably less pessimism is warranted.”

Higher-Yielding Assets

Hungary’s rally was spurred by gains for higher-yielding assets after the European Central Bank said it will lend financial institutions a record 529.5 billion euros ($705 billion) to relieve liquidity strains.

“The ECB’s actions mean the prospect of capital outflows from emerging Europe including Hungary are less,” said Chow. “That together with a likely agreement at some later stage with the IMF and EU should provide some backdrop for the forint.”

While Hungary said it needs a safety net from the IMF and EU, it hasn’t received any indication of when bailout negotiations may start, central bank President Andras Simor said in an interview with news website Origo published on Feb. 27.

The EU still has “grave concerns” Hungary’s media law undermines pluralism, Neelie Kroes, the bloc’s digital affairs commissioner, said on Feb. 9. The IMF needs to see “tangible steps” from Hungary on policy issues before starting bailout talks, Iryna Ivaschenko, the Washington-based lender’s representative to Budapest, told investors in Budapest on the same day.

Infringement Procedures

The European Commission started a so-called infringement procedure against Hungary after the government cut the retirement age of judges. The case may go to the European Court of Justice, Justice Minister Tibor Navracsics said in an interview on M1 television Feb. 28.

The government also expects to be in dispute with the Commission over proposals to cut the central bank president’s salary and change his oath of office, Navracsics said on Feb. 16, according to state news service MTI.

While Hungary had replied to written questions from the Commission concerning the central bank, judiciary and data protection agency, its answers were “vague,” Viviane Reding, the EU’s justice policy chief, told reporters today in Brussels, adding that the Commission would decide March 7 on the next steps for the infringement procedures.

“The ‘pre-negotiation’ phase seems to be going nowhere fast, with both sides becoming more entrenched,” Timothy Ash, London-based head of emerging-markets research at Royal Bank of Scotland, wrote in an e-mailed note on Feb. 29.

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