Morning Note /

EMEA Daily: All eyes on the Russia-Ukraine war heading into the weekend

  • CEE EMs remain vulnerable to Russia-Ukraine fallout         

  • ZAR bulls in charge after the SARB's hawkish 25bp rate hike   

  • Russian default fears re-emerge after President Putin demands RUB payments for gas exports  

Danny Greeff
Danny Greeff

Financial Market Analyst

Daron Hendricks
Edmond Muzinda
ETM Analytics
25 March 2022
Published byETM Analytics

All eyes on the Russia-Ukraine war heading into the weekend 

Talking Points: CEE EMs remain vulnerable to Russia-Ukraine fallout

South Africa: In typically prudent fashion, the SARB delivered its third consecutive 25bp rate hike on Thursday, raising the repo rate to 4.25%. Its accompanying forward guidance was expectedly hawkish, paving the way for further monetary tightening as it looked to convince market agents that it would do what's necessary to keep inflation expectations contained. The SARB's hawkish signalling also provided it with greater policy flexibility going forward, which will be useful as it navigates the uncertainty stemming from the Russia-Ukraine war and economic growth headwinds in China. Perhaps the most notable takeaway from yesterday's SARB policy update was the MPC's voting pattern, as two out of the five board members voted for a larger 50bp rate hike. This suggested that a 50bp hike may be on the cards for the next policy meeting in May, marking a departure from previous meetings when policymakers signalled preference for a more gradual monetary tightening trajectory.

Turkey: In the summary of the March 17 meeting published yesterday, the CBRT emphasised the importance of long-term lira loans. The central bank noted that credit growth, including long-term investment loans and targeted use of accessed funds for real economic activity, is important for financial stability. Regarding price growth, the bank reiterated that inflation in the country was driven by rising energy costs due to the regional conflict, effects of pricing formations that are not supported by economic fundamentals, supply constraints and demand developments. However, the committee expects inflation to start moderating on the back of measures taken and decisively pursued to achieve sustainable price and financial stability once peace is restored and base effects cease. These remarks suggest that the market is unlikely to see any rate hikes anytime soon, and the CBRT will keep the policy rate unchanged for a prolonged period.

Russia: At the NATO summit in Brussels, NATO committed extra troops along its eastern flank, while the US and the UK announced more sanctions on Russia. US President Biden added that the US would respond if biological weapons are used, and has since also called for Russia's removal from the G-20. Pressure continues to build on Russia, as its war efforts are not unfolding as expected with Ukrainian resistance proving unexpectedly resilient. No matter the pressure, President Putin will want to close this chapter by showing his electorate that there was something gained. That may well be the Eastern part of Ukraine, but it will come at a huge economic and social cost to the Russian economy and its people.

Hungary: In its quarterly inflation report released yesterday, the National Bank of Hungary noted that the country's economic activity will be strongly influenced by the war in Russia, the policy sanctions implemented, and the government's response to this extraordinary situation. The bank added that the spillover effects of the Russia-Ukraine war will have a restraining impact on economic growth through trade channels, disruption in international production chains, rising commodity prices and corporate costs. Against this backdrop, the 2022 GDP growth forecasts were revised down from 4%-5% in the December report to 2.5%-4.5%. Notwithstanding the high degree of uncertainty surrounding the short term outlook, Hungary continues to have a strong growth potential, the NBH noted. Furthermore, the central bank expects the current account deficit to rise this year, reflecting the combined effects of poor external demand on the export side and high energy prices on the import side, which both point towards a deteriorating trade balance. Meanwhile, the government's deficit is projected to improve this year to -4.9% down from -7.3% last year before compressing further to -3.5% and 2.5% in 2023 and 2024, respectively.

Poland: With the Russia and Ukraine crisis showing no signs of subsiding, the Polish government is anticipating the economy to come under strain due to the high inflation and growth likely to slow down. Against this backdrop, Prime Minister Mateusz Morawiecki and his administration plan to lower the tax rate from 17% to 12% on annual personal incomes not exceeding PLN120k starting in July to help offset some of the burden being shouldered by citizens. Speaking to reporters, PM Mateusz said that Poland's tax changes (dubbed the Anti-Putin Shield) seek to prepare citizens for "difficult" times ahead due to the spillover effect from the war. The announcement also seeks to reverse some of the tax revamp put in place at the start of the year (under the New Polish Deal), which was criticised by business groups and the opposition of lack of transparency. The planned tax cut will cost the state budget an estimated PLN15bn and widen the budget gap by 50bps this year.

Czech Republic: Economic sentiment in the Czech Republic fell sharply in March, ending two months of recovering sentiment. The composite confidence indicator registered a figure of 4.4 points in March from 7.2 points in February. It reflects a considerable drop in confidence due to increased concern about the Czech economy and fears about persistent supply shortages and surging prices are worsened by the crisis in Ukraine. Specifically, the consumer confidence index hit its lowest level in thirteen years, while business confidence fell from an eight-month high. The March data is the first official macroeconomic indicator since the start of the war in Ukraine and suggests that this year's economic development will be worse than what was expected at the start of the year. The war in Ukraine, sanctions against Russia, and general uncertainty will be key factors for confidence in the economy in the near future. A shift to diplomatic talks and a halt in the fighting could boost Czech morale, but this scenario is not likely for the coming weeks. 

Forex: ZAR bulls in charge after the SARB's hawkish 25bp rate hike      

South Africa: Heading into the final trading session for the week, momentum remains with the ZAR bulls, although there are tentative signs of consolidation emerging just below the R14.5000/$ mark. While the ZAR remains attractive due to high commodity prices, its undervaluation on a PPP-adjusted basis, and the SARB's prudent monetary policymaking, it must be noted that it has appreciated more than 3% this week already. Therefore, the prospect of profit-booking might become more attractive as its advance continues. That being said, technical indicators are not yet offering a clear USD buy signal, suggesting the market may remain headline-driven into the weekend.

Turkey: The USD-TRY continues to consolidate below the 15.00 handle, which is the psychological resistance. The steady performance in the pair is due to the market interventions by the central bank to mitigate volatility and the increase in foreign reserves. Despite the stable performance, the pair remains near record highs as a movement to the downside is capped by a cocktail of factors, namely, broad-based dollar strengthening due to the hawkish Fed, elevated geopolitical tension, negative real rates, high inflation, lack of structural reforms and political interference in the central bank decision making.

Russia: Bloomberg data show that the USD-RUB remains tethered to the 100.00 mark, having pivoted around that level for the most part since the middle of the month. While Russian markets remain distorted by government interventions, it is difficult to know what the true price reflections of Russian assets are. Nevertheless, the RUB's strong recovery from the all-time lows reached on the 7th of March suggests sentiment has improved, although only tentatively so with the situation in Ukraine still highly fluid and uncertain.

Hungary: Consistent with performance in the CEE region, the HUF traded on the defensive against the EUR yesterday. The local currency slipped about 0.39%, extending its losing streak to two successive sessions as some market participants were disappointed by the central bank's smaller rate hike of its one-week deposit rate in the face of soaring inflation. The cautious undertone in the markets amid the NATO Summit also weighed on the local unit. Zooming out, the EUR-HUR has been ebbing and flowing within the 370/375 range for more than a week. A sustained break out of this range to the upside could pave the way for the cross to advance further.  

Poland: The Polish zloty led the CEE currencies lower yesterday as investors erred on the side of caution ahead of an emergency NATO summit in Brussels to discuss further responses to Russia's month-old invasion of Ukraine. Additional headwinds came from PM Morawiecki's firing of Development and Technology Minister Piotr Nowak, a day after saying that there was a political agreement in the European Commission for releasing EU recovery funds for Poland. As a result, the local unit lost about 0.68% against the EUR, extending its losses to two consecutive sessions and reaching its lowest level in almost two weeks. Ahead of the local open, the sell-off has continued, with the PLN depreciating 0.43% at the time of writing. 

Czech Republic: The EUR-CZK oscillated around the 50DMA at 24.683 yesterday, lacking clear direction as investors sat on the sidelines assessing talks between the EU and NATO for the next round of sanctions on Russia. Heading into the weekend, the pair has firmed, piercing through the 76.4% Fibo retracement level, opening the way higher for the pair to probe the 61.8% Fibo, which coincides with the 100DMA resistance at 24.912. The underlying bias has shifted to a bullish, with the EUR-CZK stochastics moving out of oversold territory and extending their trend higher. 

Fixed Income: Russian default fears re-emerge after President Putin demands RUB payments for gas exports   

South Africa: With the SARB now clearly engaging in a rate hike cycle, a flattening in the curve is the likely outcome. The front end of the curve has already priced in a relatively steep hike cycle, while the R186 yield at 8.36% is effectively keeping the medium-term rate above "growth neutral" rates that is estimated at just above 8% using QPM assumptions. SAGB's and the ZAR are in an environment where further gains could be be the case for some time, particularly when considering that the front-end rate hikes will cool longer-term growth and inflation expectations.

Into the end of the week the ILB auction will be of interest. Bid/cover ratios have been falling while some auctions have been undersubscribed, which suggests that pricing on the bonds could be a little too dear for some market participants following a strong bull run in the last few sessions.

Turkey: Turkish USD-denominated bonds came under some mild selling pressure on Thursday,  with yields rising across the curve through the session. Moves were more pronounced at the long end of the curve, leading to a bear-flattening thereof on the day. This was consistent with the market's broader trend, which has seen the Turkish USD yield curve rise sharply over the last three weeks. The bias also remains to the topside going forward, as global financing conditions look set to continue tightening in the weeks and months ahead.

Russia: Russian bonds attracted some mild demand on Thursday, likely owing to central bank interventions. As interesting as this was, the most noteworthy takeaway in the Russian fixed income markets was the resurgence of CDS rates on the day. The cost of insuring against Russian debt skyrocketed after President Putin demanded RUB payment from unfriendly nations for gas purchases. This followed as the market priced in uncertainty over whether Putin's request would be accepted, and whether it could lead to additional Western sanctions on Russian energy markets.   

Hungary: Appetite for Hungarian bonds softened during the auction held yesterday after the AKK sold HUF36.0bn of bonds, HUF4.0bn below the plan. Total bids arrived at HUF91.6bn. Looking at individual bonds, investors favoured the 10yr HGB, attracting bids of HUF39.7bn, prompting the agency to sell HUF15.0bn. However, demand was soft for this bond compared to the previous auction two weeks ago, where dealers bid for HUF72.3bn. The government agency also sold HUF15.0bn of 5yr bonds, matching the original offer after primary dealers bid for HUF30bn (vs HUF79.8bn two weeks ago), generating a bid-to-cover ratio of 2. Last but not least, the AKK sold HUF6.0bn of 20yr bonds, slashing the original offer by HUF4.0bn. Bids arrived at HUF21.9bn, jumping from HUF9.6bn four weeks ago when a similar bond was sold.

Poland: During the auction held on Thursday, the Finance Ministry managed to sell a combined PLN3.03bn in its full slate of benchmark treasury papers after primary dealers' bids arrived at PLN4bn. The amount sold was closer to the lower end of the PLN3 -5bn supply range. Looking at the individual tenors, notable interest was seen in the 5yr and 10yr fixed-rate bonds. The 5yr attracted bids of PLN1.03bn, prompting the government to sell PLN1.07 and generate a bid-to-cover ratio of 1.23. For the 10yr tenor, the government managed to sell PLN1.01bn after investors offered to buy 1.6 times the amount of the securities sold. Poland has managed to finance 57% of the 2022 state budget borrowing needs following the auction.

Czech Republic: A modest payer bias was recorded along the IRS curve yesterday, which is a continuation of the theme this week, with the focus being on central bank tightening amid the threat of soaring inflation. Zooming out to the start of the month, the swaps curve has been paid significantly higher due to the above concerns, with swap rates from the short end to the long end up more than 100bps. The curve has bear flattened as investors bake in rate hike risk in the short term. Specifically, FRAs have kicked higher this week, after trading relatively flat since the war broke out, with the 1x4 tenor pricing in a near 60bps rate hike ahead of next week's rate decision. Further out, the market has baked in a near 110bps worth of rate hike risk for the year.