Some Trouble in Haven as Polish Spending Pledges Lift Risk Gauge

  • Bondholders demand highest premium over swaps in three years
  • Biggest Polish bank bets on further widening as election looms

One of the last points of refuge for investors fleeing the global rout in emerging markets is signaling danger ahead.

As Poland’s politicians vie for votes with spending pledges and tax cuts, a gauge of fiscal risk has surged to the highest level in three years. Investors are demanding 40 basis points more on five-year government bonds than the expected interest rate; six months ago, the yield and the swap rate were about the same.

Polish five-year bond yield is now the widest over the five-year swap rate since January 2012.
Polish five-year bond yield is now the widest over the five-year swap rate since January 2012.

“The widening spread reflects investor concerns before elections,” said Marcin Karasiewicz, a fixed-income trader at PKO Bank Polski SA, the nation’s biggest bank. He’s betting on the gap widening further next month.

The trouble lurking on this particular radar goes against the strongest demand in 14 months at a Polish bond auction, spurred by the European Central Bank’s stimulus program. The government said it plans to increase the budget deficit by 18 percent, or 8.4 billion zloty ($2.2 billion), next year -- and that’s the thriftier party. The opposition Law & Justice would spend up to 21 billion zloty on family subsidies alone.

President Andrzej Duda, whose surprise victory in May has led the way for Law & Justice to top polls ahead of the Oct. 25 vote, last week proposed cutting the retirement age for a cost he estimated at 30 billion zloty in the next four years. The ruling Civic Platform countered with pledges to curb payroll and value-added taxes, removing 16.7 billion zloty in annual government revenue.

Bond yields haven’t been this high relative to the swap rate since 2012, when the euro area’s worsening debt crisis was crushing confidence in Poland’s ability to reverse its ballooning budget gap, according to data compiled by Bloomberg.

Extreme Measure

The spread is “somewhat extreme,” said Tom Nash, a London-based fixed-income strategist at HSBC Holdings Plc. Unlike PKO’s Karasiewicz though, he sees the gap narrowing. Legal restraints on excessive spending “should keep fiscal balances in check for now,” he said Friday.

The Finance Ministry received 14.6 billion zloty of bids at an auction last week in which it had planned to offer just 6 billion zloty of 2017 and 2020 bonds.

Still Polish bonds, returning 1.6 percent in dollar terms this quarter, have lagged regional peers Romania, Hungary and the Czech Republic. The Bloomberg Emerging Market Local Sovereign Index has dropped 3.6 percent since June 30.

The nation will need to increase borrowing by 37 percent next year to a record 73.7 billion zloty, and that’s excluding debt to refinance maturing bonds, according to a draft budget.

“The promises made by politicians would require increasing the deficit," PKO’s Karasiewicz in Warsaw said Friday. "And therefore a bigger supply of bonds.”

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