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Orban Pork Barrel Menacing Second-Best Bonds: East Europe Credit

Hungarian Prime Minister Viktor Orban
Hungarian Prime Minister Viktor Orban, who leads in polls before elections due by May, spent 76 percent of his cabinet’s 100 billion forint ($438 million) budget reserve for the year, pledged higher wages for teachers and healthcare workers and an expansion of family-tax benefits. Photographer: Attila Kisbenedek/AFP via Getty Images

Hungarian Prime Minister Viktor Orban, facing elections next year, is increasing infrastructure spending and raising pay for state workers, helping send borrowing costs to a seven-month high.

Hungary’s 10-year dollar bonds yielded 6.14 percent on average over the past 30 days, 31 basis points higher than the previous period and the most since the notes were sold in February, according to data compiled by Bloomberg. The 1.9 percent loss on Hungarian dollar debt this year, the second-best result for Europe, compares with a 9.6 percent decline in the Bloomberg Emerging Market Sovereign-Debt Index.

Orban, who leads in polls before elections due by May, spent 76 percent of his cabinet’s 100 billion forint ($438 million) budget reserve for the year, pledged higher wages for teachers and healthcare workers and an expansion of family-tax benefits. Foreign investors cut their holdings of forint-denominated debt by 5 percent in the past two months amid a selloff in emerging-market assets, government data show.

“Orban will pull out all the stops to make sure he wins,” Charles Robertson, chief economist at Renaissance Capital in London, said by phone Sept. 5. “There may be more and more policy promises, such as higher spending, that scare markets.”

Junk Rating

The cost to insure Hungary’s dollar debt against default through credit-default swaps rose to 334 basis points on Aug. 28, the highest level since June 26, and traded at 299 at 4:57 p.m. in Budapest, data compiled by Bloomberg show.

The sovereign is rated non-investment grade by Standard & Poor’s and Moody’s Investors Service. Similar contracts for Poland, ranked five steps higher at S&P, advanced to a peak of 94 basis points this month. Ratings below BBB- at S&P and Baa3 by Moody’s are considered below investment grade.

The yield on Hungary’s dollar bonds due in 2023 fell three basis points, or 0.03 percentage point, this month to 6.20 percent today, compared with a three basis-point gain to 5.27 percent for similar-maturity Romanian securities. The 1.9 percent loss on Hungarian dollar debt this year is the best performer among emerging European nations after Bulgaria, which gained 1.2 percent, Bloomberg indexes show.

Orban, 50, spent $30 million for a new soccer stadium for the Ferencvaros club in Budapest. He’s also restoring the World War II-era design of the square around Parliament, which the government plans to complete by next year’s vote. Ministers may lower the value-added tax on pork and poultry to less than 10 percent from 27 percent now, news website Vasarhely24 reported on Sept. 3, citing Janos Lazar, Orban’s chief of staff.

Fiscal Performance

Hungary is “getting the pork barrel ready,” Timothy Ash, a London-based analyst at Standard Bank Group Ltd., wrote by e-mail yesterday. “Fiscal performance in recent months has taken a noticeable turn for the worse,” with spending increasing 29 percent year-on-year in July and revenue declining, he said.

The government had a 961.2 billion forint budget deficit in the January to August period, exceeding the 879.8 billion forint shortfall targeted for the full year, data from the Economy Ministry showed Sept. 9. Including a “substantial” surplus forecast for December, the government is on course to keep the deficit within 3 percent of gross domestic product this year, the ministry said on the same day. Hungary had a 1.9 percent deficit last year and a surplus in 2011.

Backing for Orban’s Fidesz party stands at 26 percent, followed by the Socialists at 15 percent, according to an Ipsos survey carried out among 1,500 adults on Aug. 6-13.

Bond Leaders

Orban, seeking a second consecutive term, was the first leader to cut Hungary’s budget deficit to within the European Union’s 3 percent of GDP limit since the country joined the bloc in 2004. The country’s forint bonds earned 58 percent in the past five years, the most among 26 sovereign indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies after South Africa. Polish debt returned 39 percent.

He improved government finances partly by nationalizing $13 billion in privately managed pension funds and levying special taxes on the banking and telecommunications industries, which helped push Hungary into a recession last year.

The economy expanded 0.1 percent in the second quarter this year from the previous three months after rising 0.6 percent in the January-March period. GDP will increase 0.5 percent in 2013 and 1.4 percent next year, according to median estimates in surveys of economists by Bloomberg News.

‘Not Spendthrift’

Next year’s draft fiscal plan that the government will present to Parliament by Sept. 30 “will make it clear that this is not a spendthrift election budget,” the Economy Ministry said in an e-mail to Bloomberg on Sept 5. It “applies fiscal discipline consistently,” it said.

The government has a 400 billion forint “extra reserve” for any unforeseen expenses, with no additional measures needed to improve the budget balance, the ministry said.

The forint weakened 0.1 percent to 299.68 per euro today, extending its 2013 decline to 2.4 percent. This compares with drops of 2.6 percent by the Czech koruna and 3.2 percent by Poland’s zloty this year. The forint appreciated 8.1 percent in 2012, the most among more than 160 currencies tracked by Bloomberg after the zloty.

Hungary lost its investment-grade rating in 2011 after forcing banks to take losses on foreign-currency mortgages. The cabinet said July 16 it will “phase out” remaining non-forint home loans and the government will “eliminate” them after Nov. 1 should commercial banks fail to modify contracts by then, Orban said on state-run MR1 radio on Sept. 6.

Foreigners Selling

Gyula Toth, a managing director at Ithuba Capital AG, said he has a negative view on Hungarian debt, which has outperformed “excessively,” along with the forint.

The central bank has reduced interest rates too much after easing for a 13th consecutive month in August to a record 3.8 percent from 7 percent in July 2012, and bond holdings by international funds are “dangerously” high, according to Toth, who helps manage about 400 million euros ($530 million) of assets in Vienna. Fiscal policy doesn’t pose any additional risk, he said by e-mail Sept. 5.

Federal Reserve preparations to trim its $85 billion a month of debt-buying stimulus have prompted investors to sell riskier assets. Foreign holdings of forint bonds stood at 4.94 trillion forint on Sept. 6, a 262 billion-forint decline since a July 8 peak, data from the Debt Management Agency show.

The extra yield on Hungary’s 10-year local-currency bonds over equivalent German debt slid 19 basis points today to 431, from a 2013 low of 356 on May 20. The premium for Poland’s 2023 zloty bonds over bunds narrowed 17 basis points to 252, compared with a 10-month high of 286 on Sept. 6.

Tax Proceeds

The spread on Hungary’s dollar bonds over Treasuries fell one basis point to 340 basis points today, while Poland’s increased one basis point to 150, JPMorgan Chase & Co. indexes show.

Though Orban will strive to keep the deficit below 3 percent, he is using the proceeds from special industry taxes to “put a bit more money into voters’ pockets,” said Otilia Dhand, an analyst at Teneo Intelligence, a London-based political-risk consultant.

“There is always risk associated with this kind of pre-election behavior,” Dhand said by phone on Sept. 5. “You may just fall short on your revenue targets and your deficit is going to be much larger than you were originally expecting.”

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