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POLAND IN THE CAPITAL MARKETSJune 2018

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CONTENTS

2 | June 2018 | Poland in the Capital Markets

ECONOMIC OUTLOOK3 Poland basks in strong growth but cuts talk clouds outlook

GOVERNMENT ISSUANCE4 Poland’s prudence adds to haven claim amid global shocks

POLISH ECONOMY AND CAPITAL MARKET ROUNDTABLE6 Positive Poland looks to upgrade outlook

DOMESTIC BOND MARKET 15 Poland’s domestic bond market has some catching up to do

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Poland in the Capital Markets | June 2018 | 3

ECONOMIC OUTLOOK

Positive surprises in revenue, bolstered by improvements in tax collection, helped Poland to reduce its budget

deficit to 1.7% of GDP in 2017. Mean-while, unemployment is falling rap-idly, and investment also continues apace, despite Poland’s strained rela-tions with the European Union.

Anti-Brussels sentiment runs high in parts of Poland’s political estab-lishment and analysts at Société Générale identify policy unpredict-ability as a key risk associated with the ruling Law & Justice (PiS) govern-ment.

However, such concerns have not had an impact on economic growth, or foreign investment, says Viktor Szabo, portfolio manager at Aber-deen Asset Management in London. Employment increased by 300,000 jobs in the last year and Poland’s fis-cal position is stronger.

“Poland is a big market and while labour costs have been rising, they are still much lower than Germany or core Europe,” he says. “In terms of service, they have a well-educated workforce and there is an increasing impulse towards government backed infrastructure projects and spending.”

According to Soc Gen, investment growth may climb to 6.5%-7% this year, up from 5.2% in 2017. Private and public investment is expected to increase as Polish corporates view the good conditions as a more suit-able time to invest, and public invest-ments expand.

Another key driver of growth is consumption, boosted by another measure from PiS to reverse Poland’s

declining population figures. The government offers Polish families a monthly Z500 ($137) non-taxed ben-efit for each child and a one-off grant of Z1,000 upon the birth of each child.

“Poland has a very constructive outlook over the next couple of years but they need to be aware that the positive tailwind from Ukrainian migration is likely to taper off at some stage,” says Tomasz Wieladek, senior international economist at Barclays.

EU cuts loomOne important focus for Poland is the proposed cuts to the EU’s budget for 2021-2027, which are expected to hit Poland, and Hungary, the hardest.

These cuts could have a negative impact of up to 1% of Poland’s GDP a year, according to some analysts. However, others believe that opposi-tion from the CEE region will prevent the EU funding cuts being as severe as originally planned.

The proposed cuts, which could mean a 10% reduction in the cohe-sion funds designed to promote catch-up growth in the poor-est parts of a member state, have already drawn fierce criticism from senior figures in Polish government.

“EU funds are very important,” says Barclays’ Wieladek. “But you are unlikely to get the [proposed] 24% contraction. CEE will not agree to cutbacks this large. Poland has been receptive to feedback from the EU on the rule of law issues, they’re changing the legislation as we speak, and are willing to compromise.”

Wieladek adds: “A move by the European Commission to reallo-cate cohesion funds suggests you are punishing the guys who reform, and there will be a lot of push back from Germany. The eventual cut in EU structural funds will be lower, more like 10% than 24%.”

Szabo agrees that the proposed cuts will face plenty of opposition.

“It is a controversial clause where they want to make payouts based on the respect for the rule of law, which is difficult to define,” he says. “It will give more powers to Brussels, which these parties are not happy with.”

Another possible drag on econom-

ic growth, which the government is already trying to mitigate, is the pos-sible drop in the number of migrant workers from Ukraine, says Wie-ladek. He believes that potential GDP growth could fall to less than 3% if the Ukrainian migration effect is stripped out over the next couple of years.

Though Ukrainian workers only have short term contracts in Poland, migration to Poland has surged from 200,000 a year pre-2014 to around two million a year now.

“If you believe the estimates that 7.5% of the Polish labour force is Ukrainian, the government can expect a big GDP boost from them, and to the extent that they are also consumers, the effect is larger,” says Wieladek.

“This is a very important macro-economic feature and is why Poland is able to grow at these very high

rates, despite the population shrink-ing, but it also explains why the economy has not been generating the inflationary pressures associated with such high growth.”

But with Ukraine’s economy recov-ering, the exchange rate improving, and wages in the country rising, the lure of working in Poland is diminish-ing. In addition, as Wieladek points out, since June 11 last year, Ukrain-ian workers have been able to travel visa free in the EU, enabling them to engage in the shadow economy of the EU, rather than just in Poland.

However, the Polish government is already working on measures to reduce the drain, and is considering relaxing restrictions, to allow migrant workers to stay for three years, and open up the possibility for them to apply for Polish citizenship. s

Polish GDP impressed in the first quarter of 2018, growing 5.2% year-on-year, up from the 5.1% estimated, driven by higher consumption and investment in infrastructure co-financed by EU funds. Ukrainian migrants have also boosted GDP. But with proposed cuts to EU funding set to hit Poland hardest — at a cost of 1% of GDP a year from 2021, according to some estimates — the outlook is not so rosy. Virginia Furness reports.

Poland basks in strong growth but cuts talk clouds outlook

“Poland has been receptive to feed-

back from the EU”

Tomasz Wieladek, Barclays

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4 | June 2018 | Poland in the Capital Markets

GOVERNMENT ISSUANCE GOVERNMENT ISSUANCE

Strong revenue generation at the state level and deep local markets have meant that Poland’s international

funding needs are decreasing. The sovereign’s plan for the second quarter this year was to raise Z15bn-Z25bn ($4.15bn-$6.9bn) of government debt, down from Q1. It has issued just one international bond this year (a €1bn eight year green bond) and has completed 60% of its funding plans under the current budget iteration. By comparison, as recently as 2012, Poland borrowed the equivalent of €9.1bn in the international markets.

“We are, in general, in a very comfortable situation from a needs point of view,” says Robert Zima, head of Poland’s debt management office (DMO) in Warsaw. “As far as FX issuance is concerned, we now have no needs so we just wait and see and try to find the best window with no pressure on us. The volatility is there so the key is to find the right window.”

The government plans to reduce its share of foreign currency denominated debt to below 30% by year end. The percentage has been

steadily declining from 34.4% at the end of 2016, and 30.6% at the end of 2017, according to research by Société Générale.

Zima is well aware that Polish markets are not immune from the recent bouts of volatility, spilling over from political problems in Italy and Spain, but he believes that Poland can position itself as a safe haven credit.

“The Italian case shows that the situation can change overnight, and that volatility can spike, which you can’t prepare for,” he says. “We saw some increases in domestic yields, which were up 7bp-10bp across the curve, but they tightened again. The international environment does have some effect on our domestic market but the reaction of international investors suggests they treat us as a safe asset.”

The recent bout of volatility in global markets is just a taste of what could be to come once the European Central Bank begins to unwind its vast public sector and corporate bond purchase programmes (PSPP and CSPP).

Poland has certainly benefited from the hunt for yield that pushed

rates investors, faced with negatively yielding instruments across most of Western Europe, to look further afield for returns.

Once the quantitative easing programme is wound down, core eurozone yields will inevitably increase, likely taking Polish Eurobonds with them, as Odilbek Isakov, director of debt capital markets at HSBC, one of Poland’s primary dealers, explains.

“When PSPP is unwound, the Polish curve will probably follow what happens in the core markets to some degree,” he says. “Based on historical moves, their curve probably won’t move to the same extent as eurozone names, but there will be some level of correlation between the curves. When rates go up, spreads may well also go up.”

Poland’s zloty bonds will be better insulated from the effects of European QE being retired, says Zima.

“We’re not concerned. In the case of QE we’ve seen a massive inflow of US funds into our domestic market,” he says. “When the tapering talks started in the US, American funds gradually started selling their Polish holdings [Z32bn over the last four years]. However, these were replaced by Asian funds with inflows of Z36.5bn. We don’t expect any significant effects of [the winding down of European QE].”

Indeed, on account of Poland’s strong domestic market and low FX funding, Isakov says that it is “one of the best placed countries in the CEE” to weather any market volatility and changes to funding costs caused by the unwinding of QE.

“They have a fairly large and liquid domestic market, which investors can come in and out of in large sizes, which gives a lot of confidence,” he says. “In the time of crisis, having strong domestic

The Republic of Poland has proved itself to be one of the most prudent and innovative borrowers in central and eastern Europe, leaving it well placed to navigate increasing volatility in global rates, while some less prepared issuers may run into funding difficulties. Virginia Furness reports.

Poland’s prudence adds to haven claim amid global shocks

Source: Polish Miinistry of Finance

20010

100

400

Z bn

600

700

800

900

1,000

500

300

200

Domestic banking sector Domestic non-banking sector Foreign investors

2003 2005 2007 2009 2011 2013 2015 2017 Q12018

Public Debt by holder

Public debt by holder

004-5 Gov issuance.indd 4 13/06/2018 13:34


GOVERNMENT ISSUANCE GOVERNMENT ISSUANCE

support is very important, it will cushion them against the strong volatility. Not every country enjoys that level of support.”

Global bid The Polish DMO has worked hard to engage with investors in both its domestic and international bonds and has an extensive investor relations programme. And what it has lacked in issuance volume in recent years, it has made up for in variety. Issuing green, Panda, Samurai and Swiss franc bonds has provided Poland with a well-diversified and engaged investor base.

International investors hold around 30% of Poland’s domestic

bonds, amounting to around Z200bn.

“One of our goals is to diversify the investor base, so we speak to investors across the globe,” says Zima. “In the last two years we have observed more inflow of funds coming from Asia, especially Japan. We travel there, and they have been coming to Poland as well.”

But Poland does not issue bonds just for variety’s sake. Pricing has to make sense with the issuer assessing opportunities on where the funding costs lies once swapped back into euros.

This year, the DMO has been exploring US and Australian dollar and yen denominated bonds, but

judged them too expensive. “We were preparing docs for a

dollar issuance but we put it on hold,” says Zima. “We are monitoring other markets, like Pandas but the pricing doesn’t tick the box at the moment.” s

“When PSPP is unwound, the Polish

curve will probably follow what happens in the core markets”

Odilbek Isakov, HSBC

POLAND WAS AN early adopter of green bonds, issuing the world’s first ever sovereign international green bond in December 2016 before following up with a second in January. Poland signed the Paris Agreement on climate change and is committed to the European Union’s target of at least a 40% reduction in greenhouse gas emissions by 2030.

With several years of experience under its belt, the debt management office remains committed to issuing the product. The proceeds of the deals go towards projects in six sectors: renewable energy, clean transportation, sustainable agricultural operations, afforestation, national parks and reclamation of spoil heaps.

The ministry of finance has said it is seeking to establish long term engagement with investors in the socially responsible investment sector and to build a curve across different maturity baskets.

“We can only encourage this development and are currently engaged in a number of conversations with corporate issuers in the country who are considering this format for their own projects in the future, which is further proof of the level of commitment to the Paris Accord principles that we witness in the country,” says Sergey Sudakov, head of DCM for CEE, CIS and Israel, at BNP Paribas in London.

“Although a lot of focus was placed back in 2016 on the fact that Poland was the very first green issuer in the sovereign sector, it is the continued commitment to the format that sets Poland apart from many of the others,” he adds. “With the proceeds devoted to projects in the clean transportation, afforestation and renewable energy sectors, among the others, this is the trend that the financial markets should certainly encourage.”

Poland enlisted the help of Sustainalytics, a third party ratings company for ESG bonds, to draw up the framework for both of its green bonds.

As with all new products, being the first also means testing new ground, and while borrowers are becoming increasingly used to the more arduous reporting requirements that come with issuing green bonds, Poland’s first issue was something of a learning curve, according to Robert Zima, head of Poland’s DMO in Warsaw.

“The use of funds was not a problem, we have had a very prudent approach from the beginning but the main challenge was reporting the environmental impact,” he says. “Here we had different projects from different areas like clean transportation, organic farming and green energy, and in some cases it was hard to get the exact precise data on the environmental impact of each element. But we delivered everything available as promised in our framework.

“For the reporting on the second bond we are considering various options, including engaging some governmental agencies, or some independent experts to create a dedicated framework to prepare the environmental impact assessment for the green bonds.”

Moody’s recently assigned a GB2 (very good) rating to Poland’s €1.75bn of green bonds, notched down on account of the lack of the granularity of some elements of its reporting, with the agency noting that “the lack of quantitative criteria for project evaluation constitutes a weakness, limiting the rigour of project selection”.

“The GB2 reflects the issuer’s explicit guidelines on project eligibility and exclusion criteria, which enhances transparency on the use of proceeds, but disclosure practices lack the granularity to fully determine environmental benefits,” wrote Moody’s senior vice president Rahul Ghosh in a note published in June. s

Green commitment sets Poland apart

004-5 Gov issuance.indd 5 13/06/2018 13:34

6 Poland in the Capital Markets

Polish Economy and Capital Market Roundtable

: Let’s begin by talking about the macro-economy. Growth surprised strongly on the upside in 2017, with GDP expanding by 4.6%. What were the main drivers of this impressive performance?

Piotr Nowak, Ministry of Finance: Internal demand has been the biggest driver of economic growth in recent years, and we think this will be sustained because unemployment is at a historical low and con-sumer confidence is high.

Rafal Benecki, ING: Growth in 2017 was above expectations. As Piotr said, domestic demand was very important, but the synchronised global recovery also helped. Looking at the longer term perspective, the sus-tainability of sound GDP dynamics is not just cyclical. To use the words of the World Bank, Poland’s economic transition has been one of the most successful among emerging markets over the last 30 or 40 years measured

by the dynamic of GDP per capita. On this basis, Poland has been second only to South Korea.

The economy is becoming more competitive and diversified, and last year showed that it is able to grow strongly even with reduced access to EU money. What still needs to be improved, however, is the structure of growth. In 2017, consumption was too high, and investment too low. But we still think the prospects for new investment over the coming quarters are positive, although Poland and the CEE region may experience a kind of soft patch in the second quarter of 2018. This should mirror the softening of GDP dynamics in the eurozone, and have an impact on net exports from the CEE region.

Poland’s performance remained robust in the first quarter, which was probably the peak of the business cycle. But we forecast the second quarter will show that the EU’s soft patch is negatively affecting the economy with a lag, so we may see slightly slower production

Rafal Benecki, chief economist, head of research, ING Bank Slaski, Warsaw

Cécile Camilli, managing director, head of CEEMEA debt capital markets, Société Générale Corporate & Investment Banking, Paris

Piotr Nowak, Undersecretary of state, Ministry of Finance, Warsaw

Sergey Sudakov, managing director, head of debt capital markets, central and eastern Europe, Russia, CIS and Israel, BNP Paribas, London

Phil Moore, moderator, GlobalCapital

Positive Poland looks to upgrade outlook

When Standard & Poor’s revised its outlook on Poland to positive in April, it was the latest in a series of welcome surprises. The economy has grown faster than most analysts expected, leading several of them to upgrade their forecasts for growth in 2018. In the capital market, meanwhile, it was Poland, rather than any of the core eurozone economies, that became the first sovereign in the green bond market.

What next for Poland’s vibrant economy and capital market? Participants answering this question in the GlobalCapital Poland roundtable, which took place in London in early June, were:

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Poland in the Capital Markets 7

and weaker GDP. We assume that this weakness in the eurozone is transitory. As a result, we expect to see continued strength in the Polish economy, with growth above 4% this year and close to 3.6% next year.

Cécile Camilli, Société Générale: I concur that the underlying drivers of growth have been private con-sumption and local demand. But investment has also been growing. Maybe it lagged a little in previous years, but in the first quarter of 2018 we saw double-digit growth, which has helped to fuel the very strong GDP.

From my perspective as a capital market specialist, I believe international investors have clearly recognised the strength of Poland’s economic performance, in con-trast with what the ratings agencies were signalling back in 2016. When you read the recent S&P report it is quite clear that it recognises the misjudgement it made about Poland two years ago.

If you look at the debt to GDP ratio, of around 50%, or GDP growth, which is expected to be 4.2% in 2018, or the fiscal deficit, which was down to 1.7% in 2017, these indicators are all outperforming the initial govern-ment forecasts.

This is an especially strong performance relative to the European or broader global picture.

Sergey Sudakov, BNP Paribas: The word ‘confidence’ was mentioned before, and as Cécile said, the general government balance came in at 1.7%, compared with forecasts of between 2.5% and 2.7%. So the fiscal policy side of the equation is fairly conservative, which is cer-tainly something that feeds through into investor senti-ment.

If you talk to businesses in Poland, confidence is high and companies are looking to invest. And with the economy convergent with Germany, which itself is see-ing fairly strong growth, this is also feeding through into Poland. Our own confidence in Poland is reflected in the fact that we have just made our second acquisition in the country, buying the core operations of Raiffeisen Bank Polska.

: You all mention investment, but the OECD has noted that Poland’s investment to GDP ratio is still well below the Euroland average and below the ratio in neighbouring countries. What has Poland been doing to catch up in this area?

Nowak, Ministry of Finance: Investment is clearly pick-ing up. We saw this in the last quarter of 2017 and the first quarter of 2018. There are several different explana-tions for this. One is that there have been changes in regulatory areas such as the procurement law. Another is the political dimension, because we have local author-ity elections this year which may have encouraged an increase in public investment.

So we think investment will be a driver for GDP growth this year.

Parliament has just approved a range of new measures, including making the whole country a special economic zone for new investment. We have also introduced some new tax allowances, deductions and other tax incen-tives, so the government is being very proactive in this respect.

Benecki, ING: The low level of investment in Poland is a conundrum that we don’t fully understand, although we have a few hypotheses as to why investment has been so weak.

First, Polish tax law is undergoing significant changes. The benefits of rising tax collection are visible in the fiscal metrics, with the deficit surprising on the down-side and government revenues rising. But one of the side-effects of this more rigorous tax policy is that it is discouraging investment because companies have less certainty about their cashflows, making investment plan-ning more tricky.

A second possible explanation is that Poland is in the unusual position of facing a labour shortage. In the past, expansion was extensive, and based on easy access to cheap labour. With labour becoming scarce, it is more difficult to make new expansion plans. Companies should be responding to this by switching to a new model based on more sophisticated technologies and knowledge-based production strategies, which presents a new challenge for the Polish economy.

Other factors that may be constraining investment are new burdens like the introduction of the new occu-pational pension scheme, the rise in labour costs, and the new VAT payment method effectively freezing some working capital.

The new pension scheme is positive for the long term, but in the short term companies see this as a new bur-den on top of already rising wages.

However, we agree that public sector investment will accelerate. It is already rising by 30%, and we believe that the multiplier effect from this increase will encour-age a revival in private sector investment. This is why we see the structure of GDP changing in the coming quarters, with the contribution of consumption reducing slightly and being replaced by rising investment.

: Presumably supported by EU funds?

Benecki, ING: Yes. About Z290bn ($80bn) worth of new EU projects have been signed in Brussels, but there is a lag of about two years until the implementation of new projects. So we are now in a period where projects have been started and the payment of EU money is starting to accelerate. It is still below the average of previous years, but it is gradually rising and should speed up both pub-lic investment and private outlays.

Rafal Benecki ING Bank Slaski

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: Rafal touched on the subject of the labour shortage. What is Poland doing to address the challenge presented by its unfavourable demo-graphic profile, which is sharply reducing the size of the working population? Is it putting a credible and sustainable migration policy in place, for example?

Sudakov, BNP Paribas: As far as the labour shortage is concerned, Poland is in a more positive position than many of its peers, both in the CEE region, as well as the broader eurozone. Having Ukraine on its doorstep means that it is quite easy from a linguistic and cultural perspective to address the issues of integrating and assimilating incoming workers from Ukraine. Of course Ukraine can’t solve Poland’s labour challenge in its entirety, but it is playing a big role in addressing this issue.

Benecki, ING: The one million Ukrainians working in Poland help to fill the gap in the labour market, so unit labour costs are rising more slowly than the CEE aver-age.

Camilli, Société Générale: The influx of Ukrainian workers is clearly one very important dynamic that has helped to keep wage increases in check, but this is one of the challenges that Poland will face in the coming years. Unemployment is now below 5%, which is one of the lowest levels in Europe.

: National Bank of Poland governor Adam Glapinski has recently promised that interest rates will remain stable in 2019. Do markets share his confidence, or is he being too dovish, and is there any danger of complacency on the outlook for inflation and monetary policy?

Benecki, ING: We don’t think so. There are two major factors behind low inflation — one is external and one domestic. The external factor is low inflation in the eurozone, which is one of the most important drivers of inflation across the CEE region. Locally, although wages are growing faster than productivity, this gap is not widening as rapidly as it did in previous strong business cycles.

Another factor which is very helpful is subdued com-modity prices. Oil is no longer at $50 or $60 a barrel but it is much lower than it was in 2007 or 2008.

Additionally, the Polish labour market is much more balanced than labour markets elsewhere in the region, for a few reasons. One is the inflow of Ukrainian work-ers, which we discussed earlier, and which seems to be sustainable. Although it may slow down, the Ukrainian Central Bank estimates that over the next three to four years, some 200,000 migrants may cross into Poland each year.

Also, public sector wages in Poland have risen more slowly than in neighbouring countries such as Romania and Hungary.

This is why we are expecting average CPI this year of close to 1.7%. Next year, CPI may exceed the Central Bank’s target, but it will still be within its preferred range. So we think the central bank’s reasoning on mon-etary policy is sound and based on rational expectations. In the second half of 2019, we may see CPI reaching 3%.

But given the expectation of a slowdown in the global cycle, there would be no point in responding to this with rate hikes. So we’re not expecting any changes in interest rates in this cycle.

Camilli, Société Générale: We expect a rate hike in the first half of 2019. It seems that the Monetary Policy Committee (MPC) is very much using inflation as the main determinant of monetary policy, and it has con-sistently been below target. As we said earlier, wage inflation appears to be well-contained for the moment, which justifies the NBP’s dovish policy. Indeed, the MPC has recently confirmed that it is keeping its key rates and rhetoric on track, backed by a continuing favourable eco-nomic outlook and controlled inflation.

Nowak, Ministry of Finance: I don’t think government representatives should comment on the decisions of the MPC, which is independent. But in general it is probably better to be behind, rather than ahead of the curve on monetary policy.

It is worth remembering that two years ago when there were concerns about disinflationary pressures, a number of institutions were calling for the MPC to cut rates, which it didn’t do. This proved to be the correct decision, even though everyone thought the MPC was behind the curve. Similar pressures are building today, but on the other side. On the basis of previous experi-ence I trust the MPC to make the right decision, and I think it is doing a great job.

Sudakov, BNP Paribas: We agree about the outlook for rate hikes next year. Wage inflation is the key driver of monetary policy, at least in the short term, and pressures there are lower than they are in Hungary, Romania and probably the Czech Republic.

: It’s a benign picture from an internal perspective, but we could probably talk for hours about the external risks. Piotr, which external risks keep you awake at night? Is it Trump? Is it the Fed? Is it North Korea? Is it Brexit? Is it Italy?

Nowak, Ministry of Finance: I agree that it is external shocks, rather than internal pressures, that could jeop-ardise the economic ambitions we now have in Poland.

Italy is the biggest headache right now. In many coun-tries markets have responded negatively when so-called populist parties have been elected. But when they have come into power those parties have softened their rheto-ric and markets have generally recovered.

Italy may be different, because there is a risk that the coalition will deliver on its high spending plans and anti-eurozone agenda. This may be very bad for the EU, especially given that the 2021-2027 multi-year financial framework (MFF) is currently being negotiated. The MFF has to be agreed by each member state, and if one country opposes it, it could blow up the whole deal.

The other new pressure is that every EU member state contributes to the budget, but some are arguing that only eurozone members should be allowed to use parts of it. Non-euro countries obviously oppose this, but it is a reform that some eurozone members are pushing for.

I see these two factors as being more of a headache for Poland than trade wars or worries over North Korea.

006-14 Poland RT 2018.indd 8 13/06/2018 13:35



: Do others agree that Italy has become the chief risk?

Sudakov, BNP Paribas: Most certainly. We’ve been fighting for convergence with the core eurozone markets for so long that it should no longer come as a surprise that any big problem in the EU will also affect Poland alongside other CEE countries. In terms of broader mar-ket events, there are other concerns, such as potential trade wars, the strong dollar, North Korea and so on. But I agree that it is by far the common issues facing Germany, France and Italy that will have a greater pro-pensity to impact Poland.

Camilli, Société Générale: Looking at the risks that are specific to Poland, we talked about wage inflation, which is counterbalanced by the inflow of Ukrainian workers. A slight reduction in the EU budget and the impact of Brexit may be other risks. But as Piotr said, Poland’s main trading partner in terms of its exports has become Europe.

There has been a shift from East to West, and any-thing that has an impact on economic growth in western Europe will have a ripple effect on Poland. So when we are marketing Polish sovereign risk to international investors, because Poland has done well in terms of eco-nomic growth and debt management, their focus is less on internal risks. Their concern is more on how Europe is performing and the direct consequences for Poland of subdued economic growth or some other shock in Europe.

Benecki, ING: In the local market, the zloty has been underperforming the region recently, while local Polish government bonds have been outperforming.

If the resilience of local Polish debt is to be main-tained, we need a sound fiscal agenda to be maintained over the next year. But this is an election year, and the combination of some kind of international slowdown and new spending pledges in the run-up to the elec-tions may make the Polish budget a bit more sensitive to external shocks. This is why I hope the spending rule will continue to curb politicians’ spending ambi-tions during this potentially difficult time. This is very important, because the structural deficit is decreasing too slowly.

: Sergey, you mentioned BNP Paribas’s recent acquisition in Poland earlier. Turning to the local financial services sector, what was the rationale behind buying another bank in Poland?

Sudakov, BNP Paribas: Unsurprisingly, we’re big fans of Poland’s prospects. As an institution which five years ago did not really have a retail presence, to make two acquisitions in a fairly short period of time is certainly a big vote of confidence in the country.

We very much like the fact that Poland is a European country with a large population where the penetration of fintech in banking services is somewhat higher even than in neighbouring Germany. Nowhere in western Europe, other than in Poland, will you find banking apps among the top 10 most used apps in the country. We certainly want to be exposed to this level of sophistica-tion among retail clients.

: Will you also look to grow in corporate and SME lending in Poland?

Sudakov, BNP Paribas: Our investment and corporate banking activity was well-established before our acquisi-tion of BGZ, but this is of course an area where we see potential for growth, alongside the focus on SMEs.

: More broadly, it is fair to say, isn’t it, that Poland has managed its banking industry pretty effectively over the last 20 years? How is this reflected in the performance and competitiveness of the sector today in terms of RoEs and NPLs?

Nowak, Ministry of Finance: Yes. The industry has been managed effectively, and we would argue that the sec-tor commands a premium for having been late in terms of technology — because we skipped a lot of outdated technology that a lot of western European countries are now using.

What I mean is that we have none of the legacy tech-nology in areas like checking accounts and credit cards. Our banking sector is now one of the most developed in Europe in terms of its IT.

It’s like in Africa where you see new banks being opened that don’t even use plastic cards; they are already channelling all payments via mobile telephones. So there can be a benefit in being late in terms of tech-nology adoption.

On the other side, the quality of management in the Polish banking industry is high. Maybe NPLs are slightly above the average for the EU, at around 6% compared with 4.5%. But asset quality in general is in very good shape.

There were some concerns recently that the introduc-tion of the bank tax would hamper the supply of credit and reduce profitability. But this has not happened, and profits across the banking sector in 2017 were Z13.6bn, compared with Z13.9bn in 2016. True, this means profits are decreasing very slightly. But if you exclude one-off transactions in 2016, which generated Z2.5bn in windfall profits, there has been a good increase in profits.

The economy is booming and the yield curve is still steep compared to other countries, which is where the banks make much of their money. So there is a lot to be optimistic about in the banking sector.

We are also improving the credit scoring system in the banking system, and using this technology and data will create room to drive NPL ratios down even further.

: Is there enough appetite within the local banking sector for credit to SMEs?

Nowak, Ministry of Finance: I have never heard that SMEs have any problem in accessing credit from the banking sector. They can also borrow from the Polish Development Fund, which helps SMEs and even start-ups. As well as providing financing, this offers advice and technological support.

Another important source of support is the De Minimis programme administered by the National Development Bank (BGK) which has already issued guar-antees covering more than Z88bn of loans to smaller companies. So I see no shortage of support for SMEs.

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: Let’s move on to the capital market. Cécile alluded earlier to the boost Poland was given in April when its outlook was at last upgraded by S&P. The Ministry has been arguing for years that S&P’s rating badly underestimated Poland’s credit metrics and its economic fundamentals. Piotr, were you tempted to call S&P in April and say: “I told you so”?

Nowak, Ministry of Finance: No, no. Of course I’m very happy with the revision to our outlook, but I’ll be even more satisfied when they revise our rating.

It’s tempting to say, “I told you so”, but I recognise that S&P has a job to do and they believed that their out-look was the correct one. All we can do is be profession-al, maintain an open dialogue with the ratings agencies and provide them with all the information they need. If they change their view with an upgrade or a downgrade, that is completely up to them.

: Was the market as pleasantly surprised by the positive ratings action from S&P in April as it was negatively surprised by the downgrade in 2016?

Camilli, Société Générale: Yes. S&P had actually made a number of statements and projections about the outlook for the economy based on what it saw as the inability of the new government to undertake reforms and imple-ment its policies before seeing anything being enacted. And they were proven wrong.

It is quite striking when you read the April statement, which moved Poland’s outlook to positive that S&P admits that it misjudged the situation. All the economic indicators have outperformed even what the govern-ment itself was predicting.

Now that S&P has recognised its mistake, we believe there are good grounds for an upgrade in upcoming reviews, the next of which is due in October, especially given the gap that still exists between S&P’s rating and that of the other agencies.

Sudakov, BNP Paribas: The court of public opinion often forces ratings agencies to front-run without always seeing the hard data first. We’re pleased by the positive outlook, but as Cecile mentioned, S&P is still behind the curve, so it may be too early to get too excited by it. Let’s wait and see what they do in the autumn and

whether they upgrade Poland and bring the rating more or less in line with the others.

: Presumably one of the reasons for the positive outlook for Poland, which we haven’t yet discussed, is the very healthy expected trajectory of its public debt to GDP ratio, which continues to decline. The most recent forecast from the updated Convergence Programme is that debt will fall from 50.4% in 2018 to 46% by 2021. Is this a realistic objective?

Camilli, Société Générale: If you compare the debt to GDP ratio with France or the UK, let alone with the peripheral countries, it is not only massively below, not just the Maastricht threshold, it is also well below Poland’s own constitutional threshold.

Benicki, ING: I think the 46.2% forecast may be too optimistic. It’s a long term forecast based on the assump-tion that 3% growth will be sustainable for several years. Looking at the external backdrop, this is now probably too optimistic. Given that there is likely to be a slow-down by 2021 in the US and the eurozone, we may see Poland’s debt to GDP ratio closer to 48% or maybe even 50% by then, which is still a good trajectory.

On the deficit, in order to reach 3%, the GDP dynamic would need to slow by two percentage points from the current projection of close to 3.5%. I hope that the gov-ernment’s spending rule, which is helping the Ministry of Finance to constrain politicians’ spending promises, will be observed, because this would help the deficit remain at about 2.5% of GDP.

Camilli, Société Générale: Investors may not be expect-ing Poland to continue decreasing its debt to GDP ratio at the same speed as in recent years. It would be a plus, but they are quite comfortable with the level it has already achieved. They’re happy with 50%.

: Are further ratings actions now dis-counted by investors? Are they pricing an upgrade from at least one of the agencies?

Camilli, Société Générale: To some extent, yes.

Benicki, ING: The market has been moving in that direc-tion for several months. But there is another rationale for its strong performance, which is the relatively low supply of debt because the government’s cash buffer is so high.

Another factor is that the deficit has surprised on the downside, which has allowed the Ministry of Finance to restrict the supply of new debt for several months begin-ning in the third quarter of last year. This has contrib-uted to the very strong performance at the long end of the Polish curve versus Bunds, with the Polish long end having almost outpriced the post-election risk premium.

During the recent pressure caused by the Italian uncer-tainty, the spread to Bunds widened again, but this was due mainly to the outperformance of Bunds, rather than to any weakness at the Polish long end.

Nowak, Ministry of Finance: I also think that when we have super-low rates for a long time, investors become less concerned about ratings. They care if an issuer is

Piotr Nowak Ministry of Finance

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investment grade or junk — but that is more or less it. If it is upgraded by a single notch, investors are not gener-ally very bothered.

Investors look at the data and build their own models, and their risk officers set their limits accordingly. But if they have a limit of A-, let’s say, and there is no yield available at that level, they’ll ask their risk officers or investment committees to accept BBB+.

So if we are upgraded, fine. It would be great from a political point of view, and it would make for good media coverage. But look at what happened when we were downgraded by S&P. Within a week, or a week and a half, our yields were much lower than they had been before the downgrade. Maybe it’s because of the low rates environment, or maybe it’s because of what hap-pened during the financial crisis with the misjudgement of triple-A CDOs, but there seems to be a disconnect between ratings actions and secondary market pricing.

Camilli, Société Générale: As Rafal said, at the same time there has been limited supply, and Poland’s sover-eign curve is the most liquid one in central and eastern Europe. Also, cash balances are still quite high among investors dedicated to sovereign debt as well as emerg-ing markets, all of whom love investing in Poland because it provides attractive yields on a comparative basis with the best liquidity in the region. So there is still a strong bid from investors.

: Does Poland worry about being tagged as an emerging market? Or does this help liquidity and pricing precisely because it appeals both to the emerging market accounts Cécile mentioned and to sovereign debt funds desperate for some added yield?

Nowak, Ministry of Finance: When we meet investors we’re often asked if we’re DM [developed market] or EM, and we tell them it’s up to them to decide. In terms of liquidity, yes, we’re DM. In terms of political stability and the strength of our institutional framework and gov-ernance, we’re more DM than EM.

But from the perspective of economic growth poten-tial, maybe we are more EM than DM. And in some ways perhaps it is better to be EM, because we have a higher weight in indices, whereas if we were transferred to a DM index we would have a tiny representation. It is

true that dedicated DM investors’ assets under manage-ment are much higher, so the nominal amounts might be bigger. But if you account for 0.01% of an index investors might not bother to look at you at all. They might exclude the 10 smallest countries in the index and choose one market as a proxy instead. So sometimes being upgraded to DM is not necessarily positive.

: But right now aren’t you in that sweet spot where you can attract the widest range of cross over investors?

Nowak, Ministry of Finance: Exactly.

Camilli, Société Générale: I think Poland attracts a well diversified range of investors. It has been very success-ful in selectively tapping different pockets of liquidity, including Samurai, Panda and green bond investors. If you look at Poland’s last green bond transaction, there weren’t that many EM investors in the book. There were a lot of dedicated SRI investors in the trade, many of them from France. Because French investors are the only ones who are required to disclose their SRI hold-ings, they are highly incentivised to buy liquid sovereign bonds offering some diversification from a geographical standpoint.

Benecki, ING: Just coming back to the point about rat-ings, one group which is still quite sensitive on this topic is Asian investors. When political uncertainty about the new government eased, we saw new flows of Asian money coming in to the market. This is a very important and stable group of investors which is looking to diver-sify their holdings, and contains a number of very large central banks and sovereign wealth funds.

This can be a very valuable source of demand during difficult times, but in order to retain this group of inves-tors, it will be very important to maintain a prudent fis-cal policy next year, in advance of the elections.

I believe there is the potential for an upgrade. But ratings agencies may remain on hold while there is an ongoing discussion about new spending in the run-up to the elections. But if the deficit stays below 3%, and if improvements in tax collection support a continued lon-ger term reduction in the deficit, this will help to attract new money from Asian investors in the future.

Sudakov, BNP Paribas: At the risk of stating the obvi-ous, an upward trajectory in ratings is certainly helpful in attracting the broadest cross-section of the investor community. At the same time, I agree with Piotr that since 2008 investors have stopped paying such close attention to ratings.

However, as far as the investor community is con-cerned, they only have so many different liquid sov-ereign curves to invest in, both in Central Europe and elsewhere, and investors appreciate liquidity.

If you look at what Poland has achieved in recent years, it was one of the first issuers in the region to rec-ognise that the best way to attract more rates-focused buyers is to create greater liquidity in your benchmarks, moving away from printing €500m trades to a mini-mum of €1bn.

It’s all about attracting core European rates buyers. I fully concur with what Piotr said about the dangers

Cécile Camilli Société Générale Corporate & Investment Banking

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of falling into sub-investment grade territory, because under German insurance regulation, for instance, com-panies are still prohibited from buying non-investment grade assets for the vast majority of their holdings. Aside from that, the key is continuous engagement with inves-tors and making sure that you deliver on your promises to the investment community.

Nowak, Ministry of Finance: I agree that it is extremely important to build up trust among investors by meet-ing them as regularly as possible, be it in Europe, Asia, Australia or on the US east or west coasts, and inviting them to ask us anything they want. It’s their money and they are entitled to be provided with as much clarity as we can possibly give them.

Camilli, Société Générale: I think the work Poland is doing with investors in terms of maintaining a very regular and active marketing strategy has helped to give it some immunity against volatility in rates and yields. That is visible in the clear rise we’ve seen recently in the Asian share of its foreign investor holdings, which I think now stands above 30%, at the expense of US inves-tors. This is because at the same time, US investors have had less incentive to diversify overseas as yields on US Treasuries have risen.

: Has the recent rise in Asian holdings of Polish benchmarks been driven by a deliberate push to increase the share of the Asia-Pacific region in the government’s overall investor base?

Nowak, Ministry of Finance: We have had a shelf open to issue Australian dollars for some time, which so far we haven’t used. But we maintain a very regular dialogue with the Australian banks who keep us up to speed on where there may be an opportunity for us to do something targeted at their clients, and on the poten-tial of building a long-term investor base.

Pricing is not competitive at the moment in the Australian dollar market, but we visited investors recently in Australia to introduce ourselves and remind them about the Polish economic story. The feedback we had was that they know Poland well and that if we were to issue in Aussie dollars they would like to par-ticipate.

We also visited South America in 2016, and the Middle East in 2017, and we went to Japan twice last year. That was a valuable exercise because we were able to reassure Japanese investors that tensions between Brussels and Poland were nowhere near as bad as they may have been portrayed in the media.

: Japan has been an important market for Poland for a very long time, hasn’t it? You’ve been active in the Samurai market for years.

Nowak, Ministry of Finance: Yes. We have important long-term relationships with Japanese investors which we want to maintain. They like Poland, and they appre-ciate the low volatility and the added yield, so we try to make ourselves available to answer their questions whenever we can.

: Going back to the question of supply,

you pre-financed 28% of this year’s funding require-ment in 2017, didn’t you?

Nowak, Ministry of Finance: Yes. And we have now completed 59% of our financing for this year.

We speak constantly to our primary dealers and are always open to new funding ideas. For example, last year we issued 30 year bonds in response to reverse enquiry from one big insurance company, which suited us because we want to build a liquid curve up to 30 years. Our message to investors is that we will make 30 year bonds available whenever they request them. We are flexible, and if primary dealers have requirements for private placements of Z200m-plus, we will also pro-vide these.

In relative terms, however, our 30 year issuance is still tiny and does not impact our average maturity target of four and a half years. We are providing the liquidity at the long end of the curve that insurance companies need, but at the same time we are aware that issuing more long-term bonds inevitably raises our overall fund-ing costs. So we need to find a balance, which is why four and a half years is the optimum level for the aver-age maturity of our domestic currency debt.

: And in terms of the foreign currency component of your total state treasury debt, is the target still 30%?

Nowak, Ministry of Finance: Yes. We’re almost there already, with about 30.6% at the end of 2017. But this is also flexible. If our currency weakens, for example, it could rise to 32% or so. The biggest share of our foreign currency funding is in euros, which have been fairly stable against the zloty, with very little volatility over the medium term.

From our point of view if we issue 10 year euros it is currently about two percentage points cheaper for us than issuing in local currency, so again it is a question of finding a balance between cost and investor diversifica-tion.

: You haven’t issued in dollars since March 2016. Is your strategy in the dollar market driven purely by cost, or would you be prepared to pay up for the added diversification this would pro-vide?

Nowak, Ministry of Finance: As you say, our last issue was in 2016 and before that in 2014. So we issue dollars roughly once every two years. We’ve had a lot of enqui-ries from investors because our longest outstanding dol-lar issue is now about eight years. We would like to be in the market again this year but this will depend on the market conditions. We don’t mind paying up a few basis points, but 15bp or 20bp is probably too much. When we issue in dollars or other currencies, we feel comfort-able swapping into euros because our economy is linked to the eurozone.

: Last question on Asian demand: are you planning to return to the Panda market?

Nowak, Ministry of Finance: Yes. The market has good prospects and we’d like to play a role in its growth.

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Investors there are familiar with our economy and credit profile. But pricing also matters, and the market has moved a lot in recent months, so we would prefer to wait until pricing returns to more normal levels and can be comparable to euros. As with dollars, a 50bp or 60bp difference is too much.

: What feedback are the banks being given by their clients about what they would like to see from Poland in the primary market?

Sudakov, BNP Paribas: Poland is certainly spoiled for choice in terms of its funding options. It’s good to see the international share declining because that helps to moderate pricing. Rather than try to be all things to all people by issuing a glut of benchmark trades, Poland has done the right thing by focusing purely on its core markets.

Camilli, Société Générale: We would clearly recom-mend the Polish sovereign to focus on the 10 year-plus maturity, both on the dollar side and in euros, where you can really extend the curve well beyond 10 years. Today, appetite among euro investors for longer maturi-ties is strong, so a borrower like Poland could go out to 30 years and possibly even longer.

: This brings us on to Poland’s recent green bond, which was heavily oversubscribed. How would you describe Poland’s strategy in the SRI mar-ket?

Camilli, Société Générale: Poland made a statement when it became the first sovereign green bond issuer in December 2016, but there was some negative press comment at the time. The fact that Poland came back with a larger transaction this year was a confirmation of its commitment to the market, and of its clarity about its use of proceeds and the projects these were being allocated to.

This has been very well received by investors, which was clearly reflected in the size of the order book for this year’s benchmark. It was more than three times oversubscribed with 170 investors in the book, com-pared with fewer than 100 in the first transaction.

: Did the increased demand reflect grow-

ing appetite for green bonds, which are flavour of the decade among investors, or specific demand for exposure to Poland in green format?

Camilli, Société Générale: It was a mix of the two. Green bonds appeal to conventional investors, as well as dedicated SRI funds.

In this case investors were also attracted by the liquid-ity of the Polish sovereign curve and by the limited sup-ply of new Polish debt.

For SRI investors, Poland is part of a very small club of sovereigns that have issued in green format. We’ve only seen benchmark issuance so far from France, Belgium, Poland and Indonesia. And although France has tapped its green bond, Poland is the only sovereign to have returned to the market with a new benchmark.

Sudakov, BNP Paribas: As you said, SRI issuance is fla-vour of the decade. Issuers across the region are hunting for eligible projects and either working on or strongly considering setting up a new framework for green issu-ance. We saw the first green bond from a corporate bor-rower in CEE last year and I’m sure we’ll see more.

SRI issuance is not generally creating a pricing advan-tage, but captures some of the additional volume that comes into this market, which in turn helps to create additional price tension in the book.

: Does Poland plan to issue in the green bond market on an annual basis? And can it raise most or all of its euro benchmark funding in green format?

Nowak, Ministry of Finance: We plan to issue at least once a year, but the size will depend on the budget. There was demand of more than €3bn for this year’s deal, which we could have satisfied if necessary, but we don’t want to over-supply the market. We are also aware that there is strong appetite for green issuance in Asia, where investors have asked us if we would consider issu-ing green yen or panda bonds.

We try to do as much as we can in green format, and we have had support from Moody’s, which recently assigned a GB2 rating to our green bond. We’re not eligible for a GB1 rating because we’re not yet able to provide sufficient analytics on energy effi-ciency and so on, because we don’t yet have all the necessary data.

But this rating is very positive because it demonstrates our commitment to this market and refutes the argu-ment made in some sections of the press that the green bonds we issue aren’t sufficiently green. We make no secret of the fact that we burn a lot of coal. When we roadshow our green bonds, we emphasise that this is our heritage and we can’t switch our energy policy over-night, but we want to transition our economy towards being more green.

In this respect, we have been encouraged to see a number of Polish corporates asking us to talk them through our experience in the green market. So we think we are building more and more awareness about the potential of green bonds in Poland.

: This brings us on to the local capital market. What are the main trends there?

Sergey Sudakov BNP Paribas

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Benecki, ING: The local debt story will change in the coming months, with supply expected to rise in the second half of the year due to natural seasonality and the acceleration of EU projects. There will also be some pre-funding of next year’s budget. But overall borrow-ing needs will probably be somewhat lower than the Ministry of Finance’s current projections, so we are not too concerned about rising supply.

: Are there any measures planned to bol-ster liquidity or transparency in the domestic state treasury market?

Nowak, Ministry of Finance: No. We introduced some changes to the tender process a year or so ago to make it more flexible. Primary dealers tell us this is working fine and they are very happy with it.

BondSpot, which is owned by the Warsaw Stock Exchange, provides a platform for primary dealers to trade electronically. It has some plans to introduce more functionality, which may enhance efficiencies there. But that is out of our hands.

: Piotr mentioned that some Polish com-panies are looking at the potential of SRI issuance. More broadly, is there enough non-government supply in the local bond market to satisfy investor demand for more diversification and higher yields?

Camilli, Société Générale: We would certainly like to see more supply on the Polish market from the corporate side. The development of the market for financials has been supported lately by PKO and the emergence of the mortgage bond market. I am confident that we will see more Polish covered bonds both on the domestic and international market going forward because quite a few organisations are setting up mortgage banks.

The other key development we are expecting in terms of the development of the Eurobond market for Polish borrowers is clarity on the subordinated debt that can be issued by banks. At the moment there is only one level of legal subordination, meaning that Polish bank issuers have a straight choice between senior and subordinated debt.

This is another development that we believe we will see, because MREL quotas have been announced although there is still nothing specific on the share to be contributed by senior non-preferred and other subordi-nated debt instruments. But this should trigger a require-ment among Polish banks for subordinated issuance.

Sudakov, BNP Paribas: I hope that the timetable on determining the instrument composition can be acceler-ated, because depending on who you talk to, the overall requirements for MREL-eligible securities from Poland is between Z40bn and Z55bn, so a minimum of about €10bn. This is a large quantum for a market that seldom sees more than €1bn-€1.5bn of issuance a year. And that is before you factor in the other countries in CEE.

Camilli, Société Générale: On the corporate side, issu-ance volumes have been disappointing. Away from the euro market, where we saw a number of the utili-ties and other corporates issuing around 2014, there has been very little activity. This is largely because the

domestic bank has been active in local currency lending and has acted as a cost-effective substitute for the capital market.

But we would love to see more issuance from Poland, especially given that there has been a rise in supply from countries like Romania and the Czech Republic.

Nowak, Ministry of Finance: It is true that we are see-ing intense competition among lenders, which is leading banks to cut their margins.

At the same time, there is a funding gap because the Eurobond market is closed to smaller companies which only need to raise €25m, which is peanuts for the international market. In the Polish zloty market, there is plenty of issuance but virtually no liquidity. The WSE is working to set up a local ratings agency which will assign ratings to SMEs. This will hopefully help to encourage more demand and liquidity.

We have also mentioned to the banks that they should look at securitizing some of their loans, but none of the banks want to decrease the size of their balance sheets, so they see no incentive to securitise.

Benecki, ING: The natural issuers would be companies from the power generation sector. Their investment programmes have been on hold for a while, but they have huge projects in the pipeline. Whether to focus more on nuclear or renewables is a topic now under discussion, but when we have more clarity on the gov-ernment’s energy policy I hope investment and issuance will speed up.

Among other corporates, especially in the private sec-tor, the weakness of investment is the main reason for the shortage of supply. Corporate credit in the bank mar-ket is only rising by single digits. Usually at this stage of the business cycle we would expect corporate credit demand to be rising at above 10%, whereas today it is closer to 5%.

Camilli, Société Générale: One other factor which needs to be mentioned is the issue around withhold-ing tax, which has still to be resolved. Some issuers are expecting some form of resolution on this from the Ministry of Finance as to what the procedure will be going forward — whether there is going to be a one-off payment at the beginning of the issuing process, or some form of direct or SPV issuance. It seems that the one-off payment is the preferred option.

Nowak, Ministry of Finance: Our colleagues from the tax department are working on that and have already asked some market participants what they would like to see. Previously, companies set up SPVs abroad and issued via them. But now that we have stricter tax avoid-ance rules, they are concerned that they may be penal-ised for doing this in the future.

We expect an announcement on this soon. But we are also working with the EBRD, and with EC funding, on developing a broader capital market strategy. There are already analysts working with a number of institutions within Poland on identifying the various obstacles to the development of the capital market, on both the debt and the equity side. We hope they will come up with a pack-age of solutions for addressing these obstacles by the autumn of this year. s

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DOMESTIC BOND MARKET

“By almost any metric, the Pol-ish corporate bond market is behind developed markets in Europe or comparable emerg-

ing markets in Europe,” the European Bank for Reconstruction and Devel-opment (EBRD) commented in 2016.

For the largest economy in central and eastern Europe (CEE), this was quite an indictment, especially as it came seven years after the Warsaw Stock Exchange launched its trading platform for non-treasury debt, Cata-lyst. Miroslaw Dudzinski, regional head for CEE Corporates at Fitch Rat-ings in Warsaw, says that, along-side the impact of the global finan-cial crisis on bank lending, Catalyst helped to breathe some life into the local corporate bond market.

“Catalyst played an important role in demonstrating to CFOs and treasurers that there was more to funding decisions than the cost,” he says.

Even since 2016, however, the progress made by the non-govern-ment portion of the zloty debt mar-ket has been glacial. The total out-standing had edged forward by less than 2%, from Z158.4bn ($43.6bn) at the end of 2016 to Z161.6bn by the end of the first quarter of 2018. Of this total, corporate bonds accounted for Z70bn.

Warsaw-based bankers say that these numbers are the most reli-able available in Poland’s under-researched bond market. Fitch Polska has been compiling them regularly since 1997.

However, local bankers say that even Fitch’s monthly reports should be interpreted with caution, given that many of the issues they moni-tor are effectively loans dressed up as bonds.

Many other deals, such as some of the larger utility issues, are placed entirely with single bank investors,

making them highly illiquid. The underdevelopment of Poland’s

domestic debt market is disappoint-ing, given that current macroeconom-ic and technical indicators should appeal to overseas investors, as well as local ones. “The local environment is still bonds-friendly, with strong economic growth counterbalanced by subdued inflation and low primary issuance,” says Arkadiusz Trzciolek, fixed income strategist at PKO BP in Warsaw.

There are few, if any, meaningful internal threats to this benign envi-ronment on the horizon. The ratings agencies (notably Standard & Poor’s) have recently turned increasingly constructive about Poland’s cred-it profile, while many analysts have revised their forecasts for econom-ic growth to the upside, without an accompanying rise in inflation. “The

most important takeaway is that there are no inflationary signs in the econo-my,” noted Société Générale, after the most recent update from the Mone-tary Policy Committee (MPC).

Trzciolek says international inves-tors remain broadly supportive of the local state treasury market. “Foreign investors cut their holdings by just over Z5bn in April, but that was main-ly due to the deterioration in senti-ment towards emerging markets driv-en by rising oil prices and the stronger dollar,” he says. “But in general, inter-national investors’ holdings of Polish government bonds have been very stable, at about 32% of the total.”

Vanishingly few overseas inves-tors, however, are yet prepared to use zloty-denominated corporate debt. “Documentation standards in Poland are not consistent enough and still

very different from the international market,” says Maciej Tarnawski, head of global debt financing at Bank Zach-odni WBK (Santander Group) in War-saw. “They are still generally based on a mixture of bond and loan documen-tation, which can be confusing to for-eign investors.”

This documentation can also be prohibitively expensive for non-resi-dent investors to untangle. “Interna-tional investors have told me that any returns they could earn in the zloty corporate market would probably be wiped out by the costs of the lawyers and translators they would have to hire in order to understand the docu-mentation,” says Dudzinski.

Patchy supplyWhile there have been sporadic benchmark issues from well-regard-ed entities, such as insurance com-pany PZU, which last year printed the largest subordinated issue ever in the zloty market, supply is patchy.

“Today there is very little supply from manufacturing companies. As well as being suspicious of leverage, these companies can still depend on a very strong and liquid banking sec-tor to satisfy virtually all their funding needs,” says Dudzinski.

There have been other constraints to the growth of the corporate bond market, he adds. These include the reluctance of companies to gain rat-ings, the scarcity of long-dated issu-ance, and an opaque pricing structure in which most issues are floating-rate notes, with the margin over three or six-month Wibor seldom disclosed.

As to domestic demand, uncertain-ty over Getback, the Polish debt col-lector whose bonds have lost over half their value, is said to have unnerved 30,000 retail investors who held its bonds, according to the local press.

Nevertheless, Dudzinski is optimis-tic about the long-term prospects for the corporate bond market. “If the government promotes the market by introducing standardised documen-tation, and if we see more ratings and the adoption of transparent, fixed-rate coupons, we may be able to close the gap on markets such as the Czech Republic,” he says. s

Poland’s domestic bond market is not as big as participants would like it to be. It needs standardised documentation, they say, along with more ratings and the adoption of transparent, fixed rate coupons. Philip Moore reports.

Poland’s domestic bond market has some catching up to do

“We may be able to close the gap on

markets such as the Czech Republic”

Miroslaw Dudzinski, Fitch

015 Domestic Bond market.indd 15 13/06/2018 13:35

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