Brexit Jolts EU’s Eastern Members as Polish Zloty Leads Plunge

  • Poland receives biggest contribution of EU financial support
  • Zloty falls most in emerging Europe, stocks drop across region

Brexit: Winners and Losers

Poland led declines in emerging Europe, with the zloty weakening the most in five months, as the U.K. vote to quit the European Union threatened to throttle aid to the bloc’s less-affluent eastern member states and curtail trade with Britain.

The zloty, seen as a proxy for emerging-market risk to the so-called Brexit, slid as much as 3.8 percent against the euro before trimming losses as the victory for the U.K. leave vote pounded stocks in Warsaw, Prague and Budapest and sent Polish bond yields climbing the most since January. The cost to insure Poland’s debt against default rose to highest in more than three months. Central banks from Romania to Hungary moved to calm markets.

A British departure increases the likelihood that emerging EU member states will suffer from scaled back financial support from the EU that they rely on to build roads and other infrastructure. The U.K. made the third-biggest contribution to the bloc’s budget in 2014 and is a major destination of exports from nations to the east, which also receive remittance flows from citizens living in Britain.

“The mood in the office is one of disbelief,” said Michael Wang, a strategist at hedge fund Amiya Capital LLP in London, who favors Czech over Polish stocks. Emerging Europe is under pressure from Brexit as it’s “closest to what happens in the EU and the rising chances of its dissolution.”

Biggest Losers

The National Bank of Hungary, which is taking part in a meeting with the government and debt agency today to discuss Brexit, has tools "to continuously secure financial stability," according to Managing Director Daniel Palotai. Romania’s central bank said it was ready to step in to calm market volatility, while its counterpart in Slovenia downplayed the potential fallout.

The zloty dropped the most among emerging markets, retreating 1.8 percent against the euro to 4.4434 by 5:18 p.m. in Warsaw, bringing the depreciation this year to 4.2 percent. Poland’s five-year credit-default swaps rose eight basis points to 91. Hungary’s forint retreated 1 percent to 317.15 per euro.

Emerging markets pared earlier losses, suggesting some investors were looking for bargains. There’s a "buying opportunity" in Poland’s zloty, according to Per Hammarlund, the chief emerging-market strategist at SEB SA in Stockholm, while Societe Generale SA said bond-market declines may be short-lived.

"Investors should use any volatility arising from this event to shift their exposure to emerging markets ‎before they lose even more money in developed countries," said Jan Dehn, head of research at Ashmore Group Plc, which manages $51 billion of emerging-market assets.

Haven Status?

In the run-up to the referendum, assets in developing Europe were bolstered by speculation Britons would vote in favor of staying in the bloc they’ve been part of for more than four decades. In the end, the U.K. backed “Leave” by 52 percent to 48 percent.

The U.K. departure marks a further blow to Poland’s status as a haven in emerging markets. Investor sentiment toward the country has soured since a new government elected late last year took steps to undermine the authority of key institutions, prompting Standard & Poor’s to cut Poland’s credit rating in January and the European

The yield on 10-year Polish debt climbed 17 basis points to 3.17 percent. Stock benchmarks in Poland and Prague slumped more than 4 percent, while shares in Hungary and Romania also lost ground. As its borrowing costs climbed, Poland’s finance ministry announced it was canceling an auction scheduled for next week and may limit bond supply in the near-term.

“Stay away from central and eastern Europe in the short term,” said Ozgur Yasar Guyuldar, head of equity sales at Raiffeisen Centrobank AG in Vienna. “We will inevitably see the negative growth impact of Brexit.”

EU Aid

With its $545 billion economy and 38 million people, Poland is scheduled to receive 114.7 billion euros ($127 billion) of funds between 2014 and 2020, the most of all states in the EU. The country received about 4 billion euros in remittances annually from compatriots living in other EU countries, mostly in the U.K., central bank estimates showed last year.

While countries like Romania and Bulgaria get smaller allocations from the EU budget, they’re also more exposed than larger countries like Poland since their citizens have lower incomes.

For Warsaw, there’s the added risk that Poles owe the equivalent of $34 billion of mortgages denominated in Swiss francs, a currency traditionally used as a refuge by investors in times of turmoil. The zloty sank 2.6 percent against the franc on Friday, increasing the risk that the government will follow through with a plan to make banks foot the bill for converting home loans into zloty at subsidized rates.

For a story that outlines the Swiss franc mortgage risk, click here.

"Brexit is a major source of uncertainty that could cause a slowdown in economic activity across the EU," said Piotr Matys, a strategist at Rabobank in London who projects the zloty will fall to 4.6 versus the shared European currency, a 3.5 percent drop from current levels.

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