Sovereign Analysis / Ukraine

Ukraine: IMF staff agreement on new SBA, funding needs still large

  • Board approval on new 18-month SBA amounting to US$5bn expected in coming weeks
  • Agreement will catalyse additional bilateral and multilateral support; but Ukraine will also need to come to market
  • We calculate a public sector financing requirement for this year and identify financing sources
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The IMF announced overnight that it had reached staff-level agreement (SLA) on a new programme for Ukraine, an 18-month Standby Arrangement (SBA) amounting to cUS$5bn (180% of quota). Board approval is expected in coming weeks (we suspect by mid-June).

The IMF's announcement is welcome news although widely expected given recent developments in Ukraine (see our Credit Weekly from 14 May). Crucially, the SLA follows the recent passage of the banking law by Ukraine's Parliament (Rada), after which further time was needed to allow for parliamentary procedures ahead of the presidential signature that occurred yesterday, according to reports. Approval of the banking law, which prevents former owners of nationalised or liquidated banks from regaining ownership or receiving state compensation, was seen as the last remaining hurdle to reaching an agreement with the Fund on a new programme.

The IMF had earlier confirmed a change in the nature of programme discussions for Ukraine. The IMF informed at its regular press briefing on 7 May that the programme discussions had switched from a three-year EFF (on which staff-level agreement for a US$5.5bn facility was reached in December, pending completion of certain prior actions) to a new shorter 18-month SBA, with less structural conditionality. The size of the new SBA was reported at around US$5bn, according to local reports. The switch in focus has been partly driven by the impact of coronavirus and an urgent financing need.

But US$5bn isn't US$10bn, is it? Recall that in March, in the early stages of the coronavirus pandemic and global economic crisis, the IMF Managing Director Kristalina Georgieva noted that ongoing discussions involved a bigger programme than previously thought, appearing to confirm local reports that the EFF will be up to US$10bn. Hence, there might be some disappointment with the apparent smaller size of the agreement now, that Ukraine will not receive as much as it wanted. However, we point out that on a pro-rata basis, US$5bn over 18 months is broadly equivalent to US$10bn over 3 years. And, in fact, the SBA is a better deal for Ukraine, being the same amount (pro-rata), with faster disbursements and less conditionality than would be the case under an EFF arrangement. There wouldn't be a need (or time) for many programme reviews in an 18-month programme either. It also seems that this programme agreement has usurped Ukraine's parallel request for emergency IMF financing (RCF/RFI). Still, we think President Zelensky will have to take care in explaining these changes to his domestic audience and why the money is less.

Moreover, the IMF statement yesterday noted that the new SBA is expected to catalyse additional bilateral and multilateral financial support. The government has spoken of around US$10bn in support, including IMF money, with more coming from donors. However, we are not sure all this will arrive at once.

We think the new SBA will allow a maximum disbursement of cUS$3.4bn in 2020 from the IMF, given the Fund's own lending rules (an annual limit of 145% of quota and net of principal repayments). But we think this won't arrive all in one go. We think it might imply two equal disbursements this year, half (US$1.7bn) on programme approval and the other half in a second tranche after completing the first review, presumably before year-end, assuming programme reviews are every six months, unless the Fund agrees to frontloading of course (which might be warranted given the BOP need).

However, even with IMF and donor money, we think the public financing outlook this year is still challenging.

Figure 1: Ukraine 2032 US$ bond – price (%)

Source: Bloomberg, Tellimer Research 

Figure 2: Ukraine 2032 US$ bond – yield (%)

Source: Bloomberg, Tellimer Research 

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Macro Analysis / Global

Is Africa paying a price for debt suspension?

  • The G20's debt service suspension initiative (DSSI) is due to come into effect on 1 May
  • Private creditors are expected to participate on a voluntary basis on comparable terms, upon request from the borrower
  • We find a yield premium in SSA, but this could reflect weaker fundamentals rather than debt relief efforts
Stuart Culverhouse @ Tellimer Research
28 April 2020
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The G20's debt service suspension initiative (DSSI) is due to come into effect on 1 May. The DSSI is intended to provide a time-bound suspension of debt service payments owed to official bilateral creditors for the world's poorest countries that request forbearance, and private creditors are encouraged to do the same.

Private creditors are expected to participate on a voluntary basis on comparable terms, upon request from borrower countries, although there are a number of practical considerations that need to be ironed out. Countries will also need to weigh up the relative costs and benefits of seeking relief from bondholders, balancing immediate cash flow savings with higher potential costs further down the line, as well as possible risks, inter alia, related to future market access and the potential adverse impact on their sovereign rating. 

Pakistan, according to the Financial Times, may be the first country to seek such bilateral debt service relief, although there is no suggestion in the reports that the authorities are seeking the same relief from bondholders at this stage. The article says the authorities will not seek a repayment freeze from the private sector at present.

Signals from the bond market

Do bond prices tell us anything useful about the impact and implications of DSSI for eligible countries? There are 23 countries that have foreign bonds outstanding out of the list of countries that are eligible for DSSI (comprising a total of 76 IDA-eligible countries and 47 LDCs as defined by the UN). And within the group of eligible countries with bonds, what do bond markets tell us about the impact, if any, of DSSI on Sub Saharan Africa (SSA) countries relative to others?

To look at the bond market signals, we divide sovereign issuers into three groups: one cohort being those from countries eligible for DSSI in SSA, a second cohort being eligible issuers outside Africa (non-African eligible issuers), and a third cohort comprising a selection of other small EM/frontier countries that are not eligible for DSSI (non-eligible issuers) which have similar sovereign ratings to the eligible issuers (a sort of control group). There are 13 countries in the first (SSA) cohort, 8 in the second (non-SSA) cohort (we don't include Fiji and Laos bonds as pricing isn't reliable), and we have 17 countries in our third cohort (control group).

We see that yields vary widely across the different cohorts, ranging from 8-33% among eligible SSA countries, 5-17% among eligible non-SSA countries, and 4-30% in the control group of small EM countries that aren't eligible for DSSI. To generalise, some of the higher yielders and more distressed names are probably known for having pre-existing vulnerabilities (eg Angola, Suriname, Tajikistan, and Zambia) while some other high yielders are new, due to economic crisis caused by the coronavirus pandemic (eg Maldives and Sri Lanka), so some countries may be more affected by specific debt relief initiatives than others. 

However, we should caution that comparisons of bond yields across these groups is made imperfect for three reasons. First, eligible countries span a range of sovereign ratings (from BB- down to CCC). However, the average ratings of each of our cohorts are similar, at around the B level. Second, the bonds have different maturities/durations. We take representative medium term (10 year) bonds where available for each issuer, or the sole bond where a country only has one issue. This means that yields can differ markedly, even for issuers with the same rating. Third, the size of outstanding bond issues and bond stocks varies greatly and technical or liquidity features makes comparing yields potentially misleading. 

We observe that, at first glance, there may be a yield premium on eligible SSA bonds, on an average basis, compared to bonds issued from countries that aren't eligible (the control group), which may not be a surprise, and to non-SSA eligible bonds, which may be more of a surprise. There isn't much discernible difference between average yields on bonds issued by non-SSA eligible countries and those issued by ineligible countries (the second and third cohorts), which may be a surprise. 

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Further reading 

Bondholders should follow IMF/WB call for debt relief for poorest countries, 26 March 2020

IMF/WB call for debt standstills: further thoughts and implications for bonds, 7 April 2020

G20 endorses debt service suspension initiative for poorest countries, 16 April 2020

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Flash Report / Nigeria

IMF approves emergency financing to Nigeria, calls for exchange rate flexibility

  • Board approves largest Rapid Financing Instrument (RFI) disbursement for Nigeria
  • Repayment should span over 3 to 5 years, concessionary interest rate of 0.05% plus a margin of 1%
  • The CBN committed to a flexible and market determined exchange-rate but would intervene to smooth large FX fluctuations
Nkemdilim Nwadialor @ Tellimer Research
30 April 2020
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The board of the International Monetary Fund (IMF) has approved Nigeria’s request for the sum of US$3.4bn (100% of quota) for emergency financial assistance as it faces an immediate balance of payments need following the outbreak of the Covid-19 pandemic, which combined with Nigeria’s already high downside risks increased the urgency of the disbursement to Nigeria. There is no policy conditionality attached to the disbursement.

Nigeria, like a lot of frontier oil-exporting markets, faces the twin challenge of falling oil prices and the Coronavirus pandemic, which is expected to see the economy slip back into a 2016 era recession as lower government revenues, depressed economic activities and higher food inflation due to the lockdown hit hard. The IMF projects real GDP to decline by 3.4% this year, compared to its pre-coronavirus forecast of growth of 2.5%.

The IMF had earlier approved loans to other African countries including Cote d’Ivoire, Gabon, Ghana, Rwanda, Senegal and Tunisia to fight the economic and financial impact of the Covid-19 pandemic. See our IMF emergency financing tracker. Before the approval given to Nigeria, Pakistan was the recipient of the largest amount of emergency financial support from the IMF at US$1.4 billion, followed by Ghana at US$1bn.

Is this the dawn of a shift to a floating exchange rate?

In its official press release, the IMF acknowledged that the authorities have allowed greater exchange rate flexibility and taken steps to unify the exchange rate across all markets. The IMF encourages the authorities to finalise the move towards exchange rate unification immediately and allow a market-determined exchange rate. 

The CBN officially responded to this, issuing a statement of its commitment to maintaining a more unified, flexible and market-determined exchange-rate regime and would only intervene to smooth large FX fluctuations.

Recall, that in March 2020, the central bank of Nigeria (CBN) devalued the official currency rate by 15% from NGN305/$1 to NGN360/$1 in the official market, a move which benefits the government as dollar earnings from oil are now being converted to Naira at the higher rate. We had also earlier noted that further devaluation was likely given the Naira’s inherent overvaluation and the devaluation across other oil-exporting peer currencies.

The Naira has been under pressure from the dollar following exceptionally poor Q1 export earnings due to the Covid-19 pandemic (oil accounts for c70% of exports and contributes about 10% to GDP). Earlier this week, the Naira traded at an average rate of NGN390 +/-2 at banks, while the parallel market was much more volatile trading as high as NGN460/US$1 owing to dollar scarcity – as the CBN put its own non-essential services on hold during the lockdown (evidently Nigeria views its FX market as non-essential).

Thankfully, the CBN announced its resumption of dollar sales to commercial banks and BDCs yesterday. The CBN will also begin to provide a quota of US$100mn per week to SMEs with essential import needs and international Nigerian students for school fees payments.

Potential impact of facility 

Nigeria’s revised 2020 budget expenditure stands at NGN10.3 trillion with a revenue target of NGN5.1tn and an expected NGN5.2tn fiscal deficit (c3% of GDP). The government still needs to purchase testing equipment, treat infected people and provide stimulus packages to millions of Nigerians who have lost jobs or businesses due to the pandemic, which constitutes an added fiscal burden. The government announced a fiscal stimulus package of US$1.4bn (0.3% of GDP) and cuts to non-essential capital spending of c1% of GDP. The IMF expects the overall fiscal deficit (general government) to widen to 6.8% of GDP this year (from 4.6% previously). 

Hence the loan, which in Naira terms at an exchange rate of NGN360/US$1 is about NGN1.2tn, representing 23% of the identified deficit. This loan, which can be treated as direct budget support, if applied appropriately could serve as a bridge facility, providing some cushioning for the country’s revenue shortages until the government can secure more funding. Following the Senate's approval of the President’s NGN850bn loan request yesterday, this funding could come through via a combination of foreign currency loans and local bonds in the following months.

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Strategy Note / Kuwait

Kuwait: MSCI EM delayed to Nov 2020, no change to fundamentals

  • Kuwait stock market still fully functional but MSCI states foreign accounts will not be set up in time due to Covid-19
  • Kuwait weights in MSCI indices: FM 37.3%, FEM 19.5%, EM 0.7% (potentially)
  • No comment from MSCI on ad hoc market closures in Jordan, Mauritius, Sri Lanka, or interference in Bangladesh
Hasnain Malik @ Tellimer Research
9 April 2020
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MSCI-related flows: repeat-cycle for passive funds, more pain for some FM funds

The MSCI announcement on 8 April is a surprise and important, in the short-term, but in no way changes the long-term picture. 

(1) Kuwait stocks earmarked for inclusion in the EM index (the original decision to upgrade in May 2020 was taken in June 2019) likely suffer a temporary outflow of funds positioned for that upgrade (indeed at the time of writing, the stock market has hit a intra-day, 5% limit-down circuit-breaker); and

(2) Countries whose weights in the FM (Vietnam, and potentially Iceland) and FEM (Philippines, Peru, Vietnam, Colombia) indices may have increased substantially will have to wait another six months.

The combined effect is likely to add to the pain felt so far this year by FM funds, many but not all of whom we sense were positioned in Kuwait mainly because of this inclusion. A market that has been so tricky for FM managers given its very large size in their benchmark index and its complete dominance by index-related flows (related to FTSE EM, first, and MSCI EM, second) over the past two years is delivering one last sting in its tail.

Kuwait investment case: very cheap equities, resilient sovereign, but structural weaknesses

Overall, Kuwait is not one of our preferred markets in a region, the GCC, which we do not regard as a safe haven in these times (at least, until oil price recovers).

In a time of Covid-19 economic disruption and the oil price war, Kuwait's top-down strengths are its deep sovereign reserves, which make for minimal FX rate risk and firepower for fiscal stimulus. Although recent warnings from the IMF and downgrades by sovereign credit rating agencies are a reminder that there are limits to this. 

In any more normal era, Kuwait's weaknesses are too great a dependence on welfare provision by the state (which blunts citizen incentives, drives reliance on expatriate labour, constrains the ability to implement austerity in periods of weaker oil revenue, and crowds out growth of the private sector) and a political system (a hybrid of absolute monarchy and parliamentary democracy) where obstructionism blocks the efficient execution of non-oil diversification project spending, structural reform, and, potentially, could cause a problematic succession

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Flash Report / Argentina

Argentina extends debt swap deadline to 2 June – a positive sign

  • Government set to miss today's grace period coupon payments
  • Extension is shorter than we might have expected
  • But this is a positive development if it signals the government is serious about engaging in goodfaith negotiations
Stuart Culverhouse @ Tellimer Research
22 May 2020
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Argentina has extended the deadline for its exchange offer again, this time to 2 June, according to a statement overnight by the ministry of finance. The country is also expected to miss US$500mn in bond payments due today as the grace period for payment expires. 

This was probably widely expected by now and was our baseline. Rejection of the government's offer, default and continuing of negotiations, with an extended deadline, was our Scenario 3 in our report earlier this week. 

But the extension is shorter than we might have expected (2 June is only just over a week away). Local talk yesterday was that the deadline would be extended to end-June, although we thought something even longer than that might be needed. But unlike its previous extension, such a short extension could be a positive sign if it signals the government is serious about engaging in goodfaith negotiations and believes there is enough there in the counter proposals to reach a deal quickly, rather than drag it out for longer. Investors might see that as meaning recovery values will be closer to 60 than 40, but that's not clear yet. A positive sign that is, unless Argentina has misjudged the situation again.

And while this is the second extension, the tone seems better now than it previously was. The government's statement announcing the extension said: 

"The Republic continues to receive investors’ views and suggestions over different paths to improve recoveries. The Republic is analyzing these suggestions with a view to maximizing investor support while preserving its debt sustainability goals. Argentina firmly believes that a successful debt restructuring will contribute to stabilizing the current economic condition, alleviating the medium and long-term constraints on Argentina’s economy created by its current debt burden and returning the country’s economic trajectory to long term growth. Argentina and its advisors intend to take advantage of this extension to continue discussions and allow investors to continue contributing to a successful debt restructuring."

However, one observation is that time is still tight. Previous restructurings show negotiations can take time, particularly if they involve consideration of state contingent payments, when it comes to ironing out assumptions, details and documentation (the EBG proposal includes a contingent coupon strip). And what happens if the government doesn't agree to such instruments? Does the implied loss of value mean that holders will want to reconsider their proposed bond terms, which could risk further delays? 

Still, even if it does take longer to reach a deal, longer than 2 June, we think further extensions can be tolerated by bondholders, while refraining from legal action, if they believe in the government's commitment to goodfaith negotiations and an understanding that a satisfactory agreement is in sight. 

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