Capital market reform — Hungary’s quiet revolution

Say what you like about the political shenanigans that affect and often infect its relations with near-neighbours — the perpetual rows with Brussels; the intermittent cosying-up to Russia; a once-liberal leader’s very public embrace with illiberalism — but there is nothing dull about Hungary under prime minister Viktor Orban.

In its latest World Economic Outlook, the IMF tips Hungary’s economy to expand by 3.6% in 2019, slightly down on last year’s 4.9% but a far sight better than anything mustered up in the more developed half of the continent. Inflation has ticked up in recent months but is expected to stay under control, hovering at just over 3% over the next two years. Joblessness, once the scourge of the central European state, has been all but eliminated: strong inward investment, a workfare-style programme and strict immigration policies have pushed the country close to full employment.

But while the eye is naturally drawn to macro-economic factors, it is easy to overlook the quiet revolution that has transformed Hungary’s capital markets over the past decade. The Budapest Stock Exchange (BSE) is the region’s second biggest bourse by liquidity and market capitalisation, although in recent times it has consistently outperformed its larger rival to the north.

Warsaw’s main board is down 4.3% since the start of 2018, while the BSE is up 12.6% over the same period, driven by national champions such as OTP Bank and oil and gas group MOL. Average daily turnover on the BSE was Hfr11.4bn ($40m) in 2018, up 6.7% year-on-year, with daily turnover on the main board’s cash equity market up 4% over the same period, to Hfr2.8bn.

Under chairman and CEO Richard Vegh, the Budapest Stock Exchange favours evolution over revolution. A two-year old deal with Elite, the London Stock Exchange’s international business support programme, helps firms to embed capital-raising opportunities into strategies. BSE Xtend, the main listing venue for small and medium-sized enterprises, has been a quiet hit since its launch two years ago.

Over the past year, a number of young local technology firms, including Cyberg Corporation and Megakran, have listed on the junior board, attracted by a tax abatement scheme and an injection of capital from the Szechenyi Investment Fund, a Hfr20bn EU-supported venture capital fund first unveiled in 2017. In January 2019, regulators tweaked the rules, requiring any corporate seeking to be included on BSE Xtend to boast a minimum market cap of Hfr250m, and either a 10% free float or at least 100 shareholders.

This chimes with government efforts to promote and champion homegrown innovators. State secretary for international communications Zoltan Kovacs told GlobalMarkets that the emphasis was shifting from manufacturing to R&D, noting: “Innovation and research and development must be greatly encouraged [as it will] play the leading role within the Hungarian economy in the future”.

Debt management

Another largely unnoticed shift has taken place since the return to power of Premier Orban, and the emergence of a core group of influential and creative public officials, notably central bank chief Gyorgy Matolcsy. Over the past decade, says Marek Drimal, an EMEA strategist at Société Générale in London, Hungary “has shifted from a country that was once highly dependent on external sources of debt capital, to one that is increasingly reliant on domestic sources of financing to fund its deficits”.

This has utterly transformed Hungary’s reputation among global investors. What was once, notes Drimal, a market that “gyrated and oscillated, exposed to wild swings in global sentiment toward emerging market bond prices and currencies, is now far more stable”. That reversal of fortune is, analysts say, due to three factors: political stability; a well-run if occasionally unorthodox central bank; and the patience and financial prudence of the Government Debt Management Agency, or AKK, Hungary’s debt management office.

Key to this process has been the introduction of calibrated policies such as the Self-Financing Programme. Introduced in April 2014, it actively and coherently set out to cut the government’s reliance on foreign-currency debt, and to place a greater emphasis on domestic retail investors and the banking sector.

When Hungary does engage with global investors, its forays are usually well timed and carefully planned. In September 2018, the sovereign returned to the international bond market for the first time in a year, raising €1bn ($1.12bn) via a smoothly priced seven year trade managed by Deutsche Bank, Erste Group and JP Morgan.

Despite prevailing political headwinds — the European parliament had only just voted to sanction Hungary for flouting EU rules on democracy and civil rights — the sale dragged in more than €3.8bn in orders, underlining both the appetite for emerging market debt, and also the respect accorded Hungary’s financial and economic planners.

The sovereign made a second trip to the well in December 2018, printing Rmb2bn ($300m) worth of Panda bonds, in a sale targeted at the domestic Chinese market. The bonds, which carried a coupon of 4.3%, were issued in China’s interbank market, and made available to offshore investors via the Bond Connect scheme, which allows international investors to buy mainland debt securities via Hong Kong. Hungary sold Rmb1bn worth of Panda bonds in July 2017, bearing a coupon of 4.85%, a little over 12 months after printing a Rmb1bn Dim Sum bond that it marketed direct to international investors.