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Polish zloty has been under pressure since May. Ongoing political tensions with the EU regarding the country’s overhaul of the judiciary have raised the spectre of Article 7 sanctions. Additionally, dovish rhetoric from some MPC members of the National Bank of Poland (NBP) has sowed doubt regarding materialization of interest rate hikes in 2018. More recently, rates in core developed markets have corrected higher, weighing broadly on EM currencies.
However, the three major reasons are discussed here as to why EURPLN could flinch heading lower: -
- Consolidation of core rates: We believe that current valuations in PLN are attractive to establish a short EURPLN position. In our view, US and EUR rates may consolidate following the sharp re-pricing higher of the past two weeks, with little surprising news anticipated from today’s FOMC meeting.
- Reduced political risks: Although political headline noise will persist in Poland under the current government, we see no ultimate risk of strident penalties against the country, as allies such as Hungary and the Czech Republic are likely to oppose sanctions on Poland. Investors may become acclimated to the continuing diplomatic squabbles between Poland and the EU, resulting in a diminished political risk premium for the country.
- Attractive fundamentals: Economic data point to robust growth dynamics and improving macro-fundamentals, underpinned by rising household disposable income, recovery in private consumption, growing investment, improved tax collection, and a tightening labour market. The latest batch of August manufacturing and retail sales figures surprised to the upside, raising the potential for MPC members to express more hawkish rhetoric in the coming days, which would bolster the currency. We note that PLN is currently about 6% under-valued versus its 10-year REER average, and as per SG, the interest rate hikes from the NBP commencing 3Q’18. With the external environment still constructive (i.e. slow monetary policy normalization, muted global inflationary pressures, and a tolerable baseline level of geopolitical noise), we believe that PLN can embark on a strengthening trajectory over the coming months.
Thus, we recommend shorting EURPLN spot, which is trading at 4.2875. The position generates carry of about +15bp per month. We target a 3.75% move lower, and place a stop-loss at 4.3432.
