In the foreign exchange market, the Czech crown suffered a depreciation following the end of the BNC’s exchange rate regime in August and the NBP’s surprise rate cut in September. In particular, due to the impact of contagion within the region in recent weeks, we believe EUR/CZK should be lower and we are slightly positive on CZK. This should be supported by the CNB’s cautious tone next week. Of course, EUR/CZK levels will play a key role in the November decision and we believe the pain threshold for the BNC to delay rate cuts until the first quarter of next year is 25.0 EUR/CZK.
In the rates market, we consider the pricing of short-term rate cuts, two years from now, to be more or less fair. If anything, we see less chance of big rate cuts in the first quarter, as the market currently expects. On the other hand, we see the most mispricing at the long end of the curve, which has overpriced a CNB return to the 3% breakeven rate level. Therefore, the IRS curve now points to rates above 4% in the long run and we see room for a downward revision here once rate cut discussions begin next week.
Czech Government Bond (CZGB) yields have risen following sell-offs in major markets, which we believe opens up a good opportunity to benefit from a clearly positive outlook. On the supply side, MinFin is already limiting issuance as the end of the year approaches and the state budget result is better than expected. Furthermore, MinFin is starting to anticipate next year’s needs through switches, confirming a comfortable situation with almost 75% of the CZGB plan covered.
Therefore, we view the current performance as attractive given the materialization of a massive supply drop next year and by far the best inflation profile in the CEE region, followed by the rate cuts of the CNB. Therefore, we like CZGB both overall and in the spread against the IRS curve, which in our view should enter negative territory in the coming months.