Kazakhstan Local Rates - Upside Risks Prevail for Tenge

In August, the Kazakh tenge held up well in what tends to be a weak month for the currency. In our view, that opens the door for the tenge to revisit its YTD highs versus the dollar in the remainder of the year, particularly given our positive outlook on the ruble and oil prices and our expectation that the NBK will keep real rates positive. Thanks to growing demand from the Unified Accumulative Pension Fund (UAPF), tradable short-term local rates will likely continue rising, whereas medium- and longer-term ones should be more stable. For the first time this year, in July the fund returned to being a net buyer of local bonds, as the period of peak outflows from early pension withdrawals had passed. > Tenge: Tailwinds to become stronger. Although July and August are typically the worst months for the tenge, the currency depreciated only marginally in August. The outlook for the coming months is brighter. We expect inflows into local government debt to continue, which should boost the tenge to USD/KZT 420 in September and, potentially, to 410 by the year-end. Meanwhile, positive news for the longer-term prospects of the tenge and local assets emerged in August when JPMorgan put the Kazakh local bond market on a watchlist for potential inclusion into its global bond indexes. > Rates: Local bond curve will likely flatten in the remainder of the year. Shorter-dated rates were most sensitive to July's NBK decision to raise the base rate to 9.25%, whereas yields on bonds 4y and longer changed little. We think this pattern may continue: the NBK could raise rates by another 50 bps by the year-end, while resurgent demand from the UAPF should put a cap on yield growth in the longer-dated segments. On a parallel track, the Finance Ministry has been executing its local borrowing program ahead of schedule. > Macro: Monetary policy to tighten further. The surge in global food prices has pushed inflation in Kazakhstan significantly higher. Dimming expectations for the upcoming global wheat harvest have led to a rise in wheat prices in both the global and local markets over the past several weeks, which seems to have translated into higher food inflation and higher inflation expectations. We thus expect further tightening and anticipate a 25 bp hike at the NBK's meeting on September 13.