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EMERGING MARKETS REPORT
Forint falls after central bank keeps rates on hold
Hungarian stocks drop 3% as UBS AG analysts downgrade OTP Bank to sell
By Polya Lesova, MarketWatch
Last update: 3:19 p.m. EDT April 20, 2009
NEW YORK (MarketWatch) -- Hungary's forint fell sharply on Monday after the central bank in Budapest kept its benchmark interest rate unchanged at 9.50% and the new government announced a series of fiscal measures aimed at helping the Eastern European country cope with its severe economic crisis.
Meanwhile, Hungarian equities fell 3% on Monday, led by a decline in market heavyweight OTP Bank , which was downgraded to sell by UBS AG analysts.
Hungary's central bank said Monday that the Hungarian economy will suffer a sharp downturn this year, while inflation may be around the 3% target. The bank's decision to keep rates on hold was in line with market expectations.
"The weakness of industrial production and retail sales suggests that the downturn has gathered pace," the central bank said in its monetary policy statement published on its Web site. Gross industrial output, for example, fell by 28.9% in February compared to the same month last year.
"Inflationary pressures associated with exchange rate depreciation may become more pronounced over the period ahead, which, however, may be mitigated by declining demand," the central bank said.
Following Monday's rate decision, the euro rose 0.9% against the forint to 299 forint, while the U.S. dollar rallied 2.5% to 231 forint.
'Limited room' for rate cuts
The central bank has "limited room to deliver rate cuts" even though inflation fell below 3% in March, said Lars Rasmussen, senior analyst at Denmark's Danske Bank.
"The currency is weak, the financial markets are distressed and government bond auctions did not go that well last week," Rasmussen said in a note to clients.
The outlook for the forint is "fragile" despite a fairly good run on the back of rising risk appetite since early March, he said.
Rasmussen expects one rate cut of 25 basis points in the third quarter, "but with the new government initiatives that push inflation higher, the window for monetary easing might be closing."
Over the weekend, Gordon Bajnai, who took over as prime minister last week, announced a series of fiscal measures aimed at keeping the budget deficit below 3% of gross domestic product, according to media reports. The measures include lowering payroll taxes, increasing the value-added tax and cutting spending.
Bajnai also said that the Hungarian economy will contract by 6% this year, revising the government's previous estimate of a 3.5% contraction.
Hungary, a member of the European Union since 2004, has been hit hard by a severe economic crisis.
Last November, the country received a $25 billion financing package from several multinational institutions, including the International Monetary Fund and the E.U.
Despite the external financial support, economic turmoil in Hungary has continued, causing Ferenc Gyurcsany to resign as prime minister last month. Standard & Poor's Rating Services cut Hungary's credit rating in late March to the lowest investment grade level.
OTP Bank downgraded to sell
In Budapest, the BUX benchmark stock index fell 3% on Monday. The index's largest components are oil and gas group MOL and OTP Bank.
"We regard a certain return of risk appetite for risky assets as justified, but think OTP's share price has gone too far."
— UBS AG analysts
Shares of OTP Bank, Hungary's largest lender, tumbled 6.8% in Budapest trading after analysts at UBS AG downgraded the bank to sell from neutral following the recent 80% surge in the stock price.
"We regard a certain return of risk appetite for risky assets as justified, but think OTP's share price has gone too far," the UBS analysts said in a note to clients dated Monday.
The analysts' fundamental concerns about OTP Bank are unchanged, including capital base, non-performing loans, funding structure, foreign exchange lending and regional exposure.
OTP's valuation is too expensive considering persistent risks, according to UBS.
"OTP has, in our view, rather weak franchises outside of Hungary and Bulgaria, and some are even loss making," the UBS analysts said.
"We would also highlight that OTP generates almost all of its earnings in what we would call high-risk countries -- Hungary, Ukraine, Russia, Romania, Serbia-- as it has no material exposure to, for example, Poland, Slovakia, Croatia or the Czech Republic." End of Story
Polya Lesova is a New York-based reporter for MarketWatch.
