* Forint hits fresh lows v Swiss franc, yields rise
* Global mood sours, highlights Hungary's vulnerabilities
* Lasting franc rise seen stretching borrowers' limits
By Krisztina Than
BUDAPEST, Aug 31 (Reuters) - A surge for the Swiss franc is proving increasingly unbearable for Hungary's indebted households, raising the risks to its financial position and the chances of it being forced back to the IMF for help if market falls worsen.
Financial markets have so far been forgiving to Hungary, which shocked investors in July when its talks with the International Monetary Fund and EU collapsed and its government said it would no longer need the IMF's safety net.
But a fresh rise in risk aversion, which prompted investors to pile money into safe haven currencies and drove the Swiss franc to record highs against the euro, has put Hungary's currency and government bonds under rising pressure this week.
The country's key vulnerabilities -- a huge foreign currency debt stock and poor economic growth prospects -- come under the spotlight when investor sentiment sours. The global crisis in 2008 paralysed its bond market and drove the country to seek IMF aid. This time the pressure point may be the franc.
Franc loans make up about half of Hungary's household debt stock and its rise means borrowers are being pushed to their limits to meet payments, driving up non-performing loan rates.
In July households' Swiss franc loan stock which includes home and equity mortgages and car loans as well, totalled a staggering 5.7 trillion forints. Households' NPLs in the banking system rose to 8.1 percent in June from 7.3 percent in March.
"I think CHF/HUF is already at alarming levels, the main question is how long it will stay here," said Kubilay Ozturk at HSBC. "It is very difficult to quantify how far we are from a repetition of the October 2008 situation as some market participants still seem to remain allured by the high-yield offered by Hungarian bonds, but the external environment appears increasingly hostile (or risk-averse), which does not augur well in the absence of an IMF anchor."
On Tuesday the forint
Bond yields jumped 25-30 basis points from Monday with the 5-year government bond trading at around 7.45 percent, a 6-week high. The cost of insuring Hungary's debt against default rose to its highest since mid-July.
BUDGET WORRIES
The centre-right cabinet has added fiscal uncertainty back into the mix since it took power in May, with a lack of clarity over its economic plans unlikely to be resolved before October local elections.
Economists suspect Fidesz will still return to the table with the IMF eventually. Gyula Toth at Unicredit said the chance of that happening before the October polls -- now less than 50 percent -- will likely depend on global markets which could put local markets under pressure.
"If the U.S. stock market falls 10-15 pct as some people fear and the Swiss central bank does not intervene (to stem the franc's firming), we cannot rule out the emergence of a situation in which Hungary is forced to turn to the IMF even before the election," Toth said.
The huge currency mismatch is a key risk for Hungary but to pose a financial stability threat it would have to accelerate in a lasting way.
"Obviously, it is bad and weakens the quality of portfolios but I do not expect a dramatic deterioration because the exchange rate is just one, albeit an important factor in FX mortgages," said Zoltan Torok, economist at Raiffeisen.
"I would not think this weakening would herald a new trend but I do not expect major firming (in the forint versus the franc) either."
Earlier stress tests on Hungarian banks by the central bank (NBH) showed in April that a forint level of 215 per franc could require banks to increase capital by up to 50 billion forints, a fraction of the total capital of 2.25 trillion forints available in the sector. The tests assumed much weaker economic activity and were made before Hungary's new government imposed a major tax on the financial sector to plug budget holes.
The bank now sees 0.9 percent GDP growth for this year.
FORINT FACES BUMPY RIDE
Even if there is no market crisis, the forint faces a bumpy ride in the next few weeks and traders see further upside for bond yields, although they say 8 percent has several times proved strong resistance for 10-year bond yields this year.
Eight percent is seen as a key technical level.
Last month when Hungary's talks with lenders collapsed, two ratings agencies signalled they might cut Hungary's sovereign debt rating [ID:nLDE66M0U9]. But a Reuters poll last week showed analysts deeply divided over whether Hungary would seek the insurance of some form of IMF deal this year. [ID:nLDE67N1M7]
"At the moment we are seeing a slow seeping away of sentiment towards Hungary as markets turn risk averse," said Peter Attard Montalto at Nomura in London.
"If that were to be a sudden risk off and say a failed auction or similar then a crisis could happen very quickly. However under the present slow grind there is not enough momentum to drive them back to IMF."
Fidesz is also resistant to coming forward with its 2011 budget plans before the Oct. 3 municipal elections -- the party's main priority now. The question is whether events externally may force it to take steps.
"This is a dangerous sort of game really," said David Oxley at Capital Economics. "Obviously a lot of pressure would come off the forint if you could bring in the back stop of an IMF programme. Again, Fidesz just don't seem willing to go down that route."
(Reporting by Budapest bureau; writing by Krisztina Than, editing by Patrick Graham)