Fed’s QE Cue Curbs Bets on Deeper Belka Rate Cuts: Poland Credit

Traders are trimming bets that Poland’s central bank will keep cutting interest rates as plans by the Federal Reserve to scale back stimulus send the European nation’s bonds toward their worst month in almost a decade.

Trading in overnight index swaps on June 21 showed bets on 23 basis points in interest-rate cuts this year, compared with 44 basis points on June 6. Polish bonds maturing in one year or longer lost 3.1 percent in June, on track for their biggest monthly drop since October 2003, according to data from the European Federation of Financial Market Societies.

While investors still predict a cut at central bank Governor Marek Belka’s next policy meeting on July 3 as the economy struggles to rebound, the risk is that the zloty will fall further as investors pull money out of Poland, according to Raiffeisen Kapitalanlage GmbH. That may accelerate a selloff in bonds that started last month when Fed Chairman Ben S. Bernanke said policy makers could curb their $85 billion a month of bond purchases if the job market shows sustainable improvement.

Another rate cut would be “probably very difficult without risking further currency weakness,” Ronald Schneider, who helps manage $1.1 billion in emerging-market debt for Raiffeisen in Vienna, said by e-mail on June 21. “It’s very likely that the market will have to cope with more withdrawal of capital.”

‘Obviously Hurt’

Rate cuts have “obviously hurt the zloty and if the current pace of depreciation continues, it could end up having a devastating impact on bond prices and investor confidence,” central bank policy maker Andrzej Kazmierczak, said June 21 in an interview in Warsaw. “If the zloty keeps weakening, I can’t imagine a rate cut in July.”

The zloty had its worst week since November 2011 and yields on zloty debt jumped the most since October 2008 after Bernanke said June 19 bond buying may be trimmed this year should risks to the U.S. economy continue to decrease.

“Polish zloty bonds and the currency will continue to be affected by the uncertainty about U.S. monetary policy,” said Thanasis Petronikolos, who manages $150 million as head of emerging-market debt at Baring Asset Management in London. “During this period, economic fundamentals are not the key driving forces of market movements, risk aversion is.”

Borrowing costs are close to a level that the majority of policy makers would regard as “adequate,” Belka said on June 5 after the central bank cut the main rate to a record 2.75 percent. Anna Zielinska-Glebocka, one of the 10 rate-setters, said last week the bank should deliver the final cut in July.

Slowing Economy

Poland’s economy will probably grow 1.2 percent in 2013, the weakest pace in more than a decade, according to the International Monetary Fund. Officials from the Washington-based lender have urged the central bank to reduce borrowing costs “without delay” during their visit in Warsaw a month ago.

With growth weakening, inflation pressures remain contained, allowing rates to fall to a new low, according to Ernest Pytlarczyk, the chief economist at Commerzbank AG’s Warsaw-based BRE Bank SA unit. Overnight index swaps show an 89 percent probability of a quarter-point rate cut on July 3, data compiled by Bloomberg show.

“Although the Monetary Policy Council began to signal that it is coming to an end of the easing cycle again, we believe another cut in July is still in the pipeline,” Pytlarczyk wrote in a June 21 e-mail. “Foreign-exchange intervention and the Fed are not going to be an obstacle. We are in the middle of one of the steepest disinflation phases in Polish history.”

Inflation Risk

The central bank sold foreign currencies for the zloty on June 7 in its first market intervention since 2011 to curb volatility, the regulator said in a statement the same day. Belka said there was “no contradiction” between the central bank’s monetary easing and intervening to support the zloty, PAP newswire reported that day.

The inflation rate, which slumped to a seven-year low of 0.5 percent in May, may be on track for a “significant undershooting” of the central bank’s 2.5 percent target in 2013, according to Pytlarczyk.

The zloty strengthened less than 0.1 percent to 4.3447 per euro at 11:28 a.m. in Warsaw, after weakening 2.5 percent last week. The yield on five-year bonds jumped 18 basis points to a seven-month high of 4.04 percent, increasing 83 basis points since June 14, according to data compiled by Bloomberg.

Extra Yield

The extra yield investors demand to hold Poland’s 10-year zloty bonds rather than German bunds increased four basis points to 273, the highest since Dec. 12, data compiled by Bloomberg show. The yield spread for Polish dollar-denominated bonds over U.S. Treasuries fell 10 basis points to 139 today, compared with a 3 basis point drop for emerging-market debt, JPMorgan Chase & Co.’s indexes show.

The cost to insure Polish debt against non-payment for five years using credit-default swaps rose seven basis points to an eight-month high of 113, data compiled by Bloomberg show. The contracts, which rise as the perceptions of creditworthiness deteriorate, pay the buyer face value in exchange for the underlying securities should a government fail to adhere to its agreements.

The lowering of bets on rate cuts “is the result of a correction on the market, rather than of a deep consideration of what the rate council is doing,” Piotr Bielski, an economist at Bank Zachodni WBK SA in Warsaw, said by phone on June 21. “July is the last moment for a rate cut. Cutting rates after the summer holidays would be too late.”

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