Nicholas Watson in Prague -
Central and Eastern Europe’s bond markets are growing fast, outperforming their more developed counterparts and showing scope for more improvement. To capture this trend, Erste Bank Group has developed two bond indices to help potential investors get a quick take on the region’s government bonds.
Together with the release of its fixed-income report, “CEE Eurobonds – The ‘Sweet Spot’”, the region’s third-largest bank on October 2 unveiled the “Erste CEE Eurobond Index” and the “Erste CEE Local Currency Bond Index". The countries included in those indices are Croatia, the Czech Republic, Hungary, Poland, Romania, Slovenia and Slovakia, while the last two are omitted from the local currency index because they are both members of the Eurozone. Russia and Turkey were excluded from both, as their size would simply overwhelm any effect from the smaller markets. Poland is the largest in terms of weightings (see table).
“In order to better track performance of the region’s bonds, we wanted to have one number to show how the region is doing. So we have introduced two Erste CEE bond indices – two because not all investors are allowed to invest in local currency bonds – which give investors a glance of the performance of government bonds in CEE,” Juraj Kotian, head of macro/fixed income research CEE at Erste, tells bne.
The indices are synthetic and non-investable, in that they simulate investment in five-year government bond paper and calculate the total return in euros, including the currency gain/loss if local bonds. “They are instructive as an indicator of CEE bonds, not the CEE bond market,” he says, adding that Erste is in talks with Bloomberg about having the indices fully updated with the financial data provider.
Kotian says the main reason behind the idea is that the CEE sovereign bond market is now worth about €400bn, making it the fifth largest in Europe and larger than the Dutch, Belgian or Austrian government bond markets. “Apart from Poland, the bond markets of individual CEE countries are relatively small, but pooling them together creates the fifth largest government bond market in continental Europe,” the bank notes.
The region’s bond markets are also performing well; since the beginning of this year to September 15, investments in CEE local currency bonds and Eurobonds with a maturity of around five years were yielding a total return measured in euros of about 5.3% and 6.9%, respectively. By contrast, the five-year German Bund or French bond over the same time period returned just 3.8% and 4.6% respectively.
This is attracting more money, as the low interest rate environment forces more investors to diversify into other assets outside of their traditional markets.
According to Erste, the best performer so far this year was the Hungarian Eurobond with its 10% return beating even Italian, Spanish and Slovenian bonds. Zoltan Arokszallasi, fixed income analyst at Erste, explains that Hungarian Eurobonds, as well as those issued by Romania and Croatia, did well because the market consensus at the start of the year was that yields would increase in the Eurozone and US. When this did not happen, “these countries most sensitive to risk assessment benefited most from this spread compression", says Arokszallasi.
Among local currency bonds, the best performer has been Romania with a 9.8% total return. Erste attributes this to the local currency not weakening as much as others, because “it has been well anchored by the central bank".
Looking ahead to the rest of the year, Erste sees good potential for CEE bonds on the back of good economic fundamentals, good bond supply side fundamentals, and the European Central Bank extending its asset-buying programme. Short-term currency gains in Hungary and Poland before the end of the year should boost the performance of the Erste CEE Local Currency Bond Index.
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