Base rate held

Hungary's central bank (NBH) left the base rate unchanged at 7.75 percent which is the highest in the European Union. The decision made on Monday matched the expectations from the market. The Hungarian central bank's key rate compares with 2.75 percent in the Czech Republic and 4.50 percent in Poland. The decision came after Hungary’s National Bank decided to focus more on rising risk premiums resulting from a global credit crunch which could cause the forint (HUF) to weaken further, creating inflationary pressure. The Hungarian Forint lost approximately 4 percent against the Euro in the past month along with other East European currencies as international investors sold their risky emerging-market assets during the global credit crunch of the past weeks. However, the Forint has once again strengthened again in the past week in line with the Turkish lira, as the appetite for riskier assets has somewhat increased. The so-called carry trade investors buy lira-denominated assets because of Turkey's 17.5 percent interest rate, the highest in Europe. In addition they also purchase Hungarian bonds as the interest rates in Hungary are the highest in the European Union. The term currency carry trade is when investors borrow low-yielding currencies (like Japanese Yen) and lend high-yielding ones (like Turkish lira and Hungarian Forint.)
The National Bank of Hungary (NBH) said in a statement related to the rate decision that the improving balance of the domestic economy still gives room for a rate cut, however the increasing uncertainty in the international markets makes the Hungarian Central Bank more cautious. Economists believe that the Hungarian Central Bank is just postponing a rate cut until global markets settle and Hungarian inflation slows more markedly. The convergence story (newly introduced European Union countries have to converge their interest rates to the levels of the European Union) reflected by the treasury yields could further slow down in the short-term. A less aggressive than expected rate cut cycle is unfavorable to OTP, Hungarian biggest bank, and Magyar Telekom’s shares due to the slowing convergence story. The valuation of OTP becomes lower when treasury yields increase. Magyar Telekom is a dividend paying stock, and when yields are high, investors are more attracted to high Treasury yields than riskier stocks, even if they have high dividend payments. However, due to the negative correction in the past weeks, there will probably not be a notorious sell-off in these two stocks unless a global turmoil occurs again (in which case all equities in the Budapest Stock Exchange could further lower.)
Last week we saw positive economic data in the US which helped global markets, particularly interesting were the numbers for durable Goods orders and New Home sales. Durable goods orders are new orders placed with domestic manufacturers for the immediate and future delivery of factory hard goods. It tells investors what to expect from the manufacturing sector, a major component of the economy, and consequentially having an effect in their investments. The new home sales numbers were also better than the market projected. It represents the newly constructed homes with a committed sale during the month, as well as housing trends and economic momentum.
Despite the positive data from last week, we saw less shiny than expected housing statistics on Monday that could indicate that the real consequences of the housing problems in the US cannot be completely accounted for yet. On Monday we saw more trouble as the numbers for US existing home sales fell in July, adding to the inventory of unsold properties and showing the housing slump that triggered a collapse in credit markets could drag on in the future.
For the next weeks, I expect further volatility in the equity markets, but perhaps not as volatile as in the past weeks. We will continue to look into any data from the US, specially the one related to the housing market. In addition, we will pay extreme attention to the US’ GDP numbers published at the end of this week that could boost or reduce global confidence. And without confidence, I can assure you that the Budapest Stock Exchange will continue its downward path.