Currency Dynamics: Zloty Recovery and Outlook for €/PLN Exchange Rate! Government Bond Strategy: Resilient POLGBs and Potential Risks in the Long End
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FX strategy
The zloty significantly recovered in 2Q23, owing to a positive external environment but also improving domestic fundamentals. From a significant current account deficit, Poland quickly transitioned to a surplus. Moreover, the Ministry of Finance was seen tapping more into hard currency debt markets and, based on past MoF practices, it is likely some of these funds were converted via the market. We also think companies have made some contribution to foreign inflow to Poland.
CEE FX performance since 2021 (%)
These factors are likely to persist over the remainder of the year as well, given, for example, limited import demand and potentially elevated borrowing needs forcing the MoF to conduct further hard currency issues.
On top of that, investors may also bet on a change of power after the general elections in October (political polls gauge this possibility at around 50%), Poland gaining prompt access to the Recovery Fund, etc, and build positions ahead.
However, based on our estimates, the zloty is no longer undervalued against the euro (see chart on left). The NBP has already effectively ended its tightening cycle and some MPC members signal prompt rate cuts. Simultaneously, markets are repricing Fed and ECB rate paths.
In tandem with elevated inflation in recent years, which undermined the competitiveness of local companies to some extent, it should limit the scope for €/PLN to drop to around 4.40.
€/PLN – ING relative value model since 2021
In 2024, we see €/PLN moving to a horizontal trend. The current account surplus is likely to fade given recovering domestic demand. Moreover, the government (regardless of whether the PiS retains power) is likely to try to limit zloty gains to shelter exporters.
The 2yr, 5yr and 10yr yields since 2021 (%)
Fixed income strategy
In 2023, POLGBs proved resilient, largely driven by local demand. While foreign investors reduced holdings, domestic purchases were heavy. This is particularly the case for local banks and individuals who bought over PLN4bn bonds net, out of a net issue of PLN12bn. Until 4Q23 we see a risk of curve steepening.
The pre-election fiscal promises fest has already started and both the ruling PiS and opposition are to unveil more, a clear risk for the long end. Moreover, the market expects the NBP to cut rates this year. While we see a minimal easing at best, incoming data should only support the market view.
Structure of POLGBs holders; change since January 2020
However, we don’t expect a larger rise in asset swaps or Bund spreads. The government may continue to both tap hard currency markets and the credit part of the Recovery Fund. The MoF may also reduce its significant cash buffer (PLN116bn).
Thus, despite the high general government deficit, actual POLGBs issues may be tame. Moreover, local demand for bonds should remain strong. Overliquidity in the banking sector continues to rise, given lacklustre credit demand. This will both incentivise the banks to invest in POLGBs to avoid the asset tax, while further lowering deposit rates.
This will increase the attraction of POLGBs to other local investors. Even if the NBP were to cut rates this year, it will be minimal and followed by a long pause (given persistent core inflation).
By contrast, the market expects a full easing cycle.
