Reuters: US Dollar Report: Bond managers look to Hungary despite its faults

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Bond managers look to Hungary despite its faults May 31st 2012, 17:34 Thu May 31, 2012 1:34pm EDT * Hungary bond spreads indicate big risk * Templeton Global in Feb. had 5 pct of assets in Hungary * Bond managers watch closely for IMF loan to Hungary By Tim McLaughlin BOSTON, May 31 (Reuters) - For bond fund managers trying to avoid Europe's troubles, not every country in need of a bailout is out of bounds. With uninviting prospects in Greece, Italy and other western European nations, some managers are looking further east - to former Soviet bloc member Hungary. Hungary's economy is sliding into a recession. Prime Minister Viktor Orban's fight with the country's central bank has salted relations with the European Union over desperately needed bailout funds. And top credit-rating agencies have downgraded the country's bonds to junk status in recent months. But for some fund managers, Hungary's economic prospects are less bleak than those of other European countries while its high-yielding bonds provide adequate compensation for the risks. "Hungary wants to put its government on a diet while the rest of Europe does not," said Stephen Smith, a manager of the $1.5 billion Legg Mason BW Global Opportunities Bond Fund . "Hungary is one of the higher risk trades, but we think it has good risk-adjusted returns." Hungary's 10-year treasury bond yielded 8.86 percent on Thursday, up about 148 basis points f rom a year ag o. The spread over benchmark German bonds topped 700 basis points this month, up from about 382 basis points a year ago. Last fall the Legg Mason fund increased its exposure to Hungary when the country's 10-year bond yielded more than 9 percent. Yields spiked to nearly 11 percent in January after Hungary's debt was downgraded to junk status by a third credit-rating agency. After taking power in 2010, Orban's Fidesz party drew international protests f or m uzzling the media, taking over private pension funds and slapping Europe's biggest tax on banks. New out side loan fu nding is essential because of nea rly 5 billion euros of external debt that comes due this year. The Legg Mason fund, at the end of March, held $50 million in Hungarian debt, or 3.6 percent of net assets. "We're not thinking about selling," Smith told Reuters. "We're established there at attractive levels." The $61 billion Templeton Global Bond Fund, run by Michael Hasenstab, is in deeper. At the end of February, 5 percent of the fund's assets, or $3.2 billion, was invested in Hungary, according to U.S. regulatory filings. Hasenstab was not available for comment. Last month, while in Singapore, he defended his investment in Hungary, expressing optimism the country would work out an aid package with the International Monetary Fund. The issues causing friction between the Hungarian government and European officials "are really trivial," he to ld reporters. Orban's crackdown on the independence of the country's central bank has delayed aid talks. The dispute with European officials has repeatedly set back the start of talks on a loan from the European Union and IMF, something that Hungary needs to lower its borrowing costs amid the euro zone's mounting debt crisis. Meanwhile, Hungary's central bank this week kept its main interest rate on hold at 7 percent for the fifth straight month. A loan deal with the IMF and the European Union, which Hungary hopes to sign in the autumn, could allow the bank to cut rates late this year to 6.5 percent and spur growth, analysts said. The $6.6 billion Eaton Vance Global Macro Absolute Return Fund late last year bought Hungarian debt issued in euros while shorting local interest rates through rate swaps, co-manager Michael Cirami said. The fund is still holding a portion of the trade, he said. Hungary government bonds represented 1.58 percent of the Eaton Vance fund's net assets at the end of March, according to its most recent disclosure. The fund is trying to be in countries that are less connected to the problems of Western Europe, said Cirami, who described them as "idiosyncratic" countries. Hungary is positioned for growth because it implemented a lot of spending reforms in the past decade while other parts of Europe gorged on cheap debt, Cirami said, while acknowledging it needs the outside loans. Hungary's ratio of debt to gross domestic product has been in the 80 percent range - a relatively tame figure when compared with Greece, Ireland, Italy and Portugal, whose ratios have soared above 110 percent. "In central Eastern Europe, labor is cheaper and the business environments are more flexible," Cirami said. "We have mixed views on Hungary. They've made a number of tough decisions to reduce macroeconomic vulnerabilities. But the market is very concerned about Hungary and its need for external assistance." The stake accounted for 20 basis points of the fund's 243 basis points of excess return over the one-month London interbank offered rate during the first quarter. Investments in Eastern Europe overall contributed 111 basis points of excess return while Western Europe subt racted 92 b asis points. The Fidelity New Markets Income Fund, run by John Carlson, held $69.5 million of Hungarian bonds, or 1.3 percent of its $5.3 billion in net assets at the end April. The fund was a top one-year performer among emerging market debt funds, according to Lipper data for the 12 months that ended April 30. Link this Share this Digg this Email Reprints

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