Weekly Credit Risk Monitor /
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Weekly Credit Risk Monitor

    Stuart Culverhouse
    Stuart Culverhouse

    Chief Economist & Head of Fixed Income Research

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    Tellimer Research
    19 December 2019
    Published byTellimer Research

    In Focus: Fixed income strategy – Top 5 picks and 2020 outlook (read the full report here

    This year will have exceeded most investor expectations (certainly ours). A total return in the EMBIGD of 14.2% YTD (to close 13 December) looks beyond anything we could have imagined in the depths of late 2018, with gains boosted last week by the US-China trade agreement.

    Yet 2019 was still a year of two halves, as most of the gains were made in H1 – cheaper valuations to start with, after the market collapsed in Q4 18, may have made it easier to generate such strong performance. It has become more challenging in H2, notwithstanding the surprise reverse in the Fed tightening cycle, as markets have focused on the slowing global economy and the intensification of the US-China trade war, as well as country-specific risks in Argentina, Ecuador and Lebanon, and spread of public protests across the world against failing incumbent leaders. 

    And the market seems to have bifurcated into a barbell, with low-yielding (<8%) hard currency sovereigns and a small group of high-yield or distressed countries, with not much in between. We estimate the total outstanding amount of ‘distressed’ sovereign bonds is US$154bn (nominal), across eight countries that are either in default or with yields over 10%, slightly down from a year ago. However, just four countries account for most of this (Argentina, Ecuador, Lebanon and Venezuela). 

    Nominal EM yields (EMBI spread plus the US 10-year yield) have fallen by 217bps this year to 4.9%, and are now at a 6½-year low. They are only c50bps off their all-time low of 4.37% on 3 January 2013. Meanwhile, our measure of the frontier yield is 9% excluding Argentina, and 7.8% excluding Lebanon too. 

    We think it will be harder to generate such strong returns in 2020 as, despite a benign rate outlook (Fed on hold in 2020 and the ECB keeping monetary policy loose), spreads are already tight and the market not so dislocated. This might mean low-single-digit returns are the best we can hope for next year, although we think Argentina could make or break the year for investors. We’re not ready to pull the trigger just yet though. 

    We think there are four global themes that will shape the outlook for 2020 and the impact on EM, with some from this year repeating themselves (global growth, US-China trade war, global interest rate cycle) and some new ones (US presidential election). 

    We make three changes to our Top 5 picks. We include Buys on a couple of high-yield sovereigns (Ecuador and Tajikistan, where we think policy commitment – Ecuador – and fundamentals – Tajikistan – are mispriced). We have Buys on two corporate re-rating stories (Petropavlovsk and JBS). And we have a Sell on Kaltex. 

    We also highlight 12 other trades/assets to watch, or particular themes, during 2020. Some will be familiar, others are relatively new to our coverage. They include potential sovereign default/restructuring candidates (Argentina, Lebanon, Zambia), countries with elections next year (Bolivia, Ghana, Cote d’Ivoire), the diverging performance between Ukraine’s sovereign and corporates, and four corporate trade ideas (three from LatAm, plus Nostrum). We also include two special features: on Mexico and CEEMEA banks.

    Recap of the week’s key credit developments 

    Serbia (SERBIA): On Friday, S&P upgraded Serbia’s long term foreign currency rating to BB+ from BB, after Fitch made the same move in September. Moody’s rating remains at the lower Ba3. S&P’s outlook remains positive, which is encouraging as it is now just one notch below investment grade. 

    Benin (BENIN): On Friday, the IMF completed the fifth review under Benin’s ECF programme. Approved in April 2017, the US$151mn (90% of quota) three-year ECF aims to raise living standards, preserve macroeconomic stability and improve economic statistics provision and quality. The review completion allows for the disbursement of US$22mn, bringing total programme disbursements to US$132mn. The IMF Executive Board also approved a four-month technical extension, due to a slight delay in completing the review; we raised this possibility in our IMF Annual Meetings report. 

    Barbados (BARBAD): On Monday, the IMF concluded the second review under the US$288mn (220% of quota) four-year EFF programme, which was approved in October 2018, the first programme since 1993. The EFF aims to restore debt sustainability, strengthen the external position and improve growth prospects. The review approval allowed US$49mn to be disbursed, bringing total disbursements under the programme to US$145mn. 

    Gabon (GABON): On Monday, the IMF completed the fourth and fifth reviews under Gabon’s EFF programme. Approved in June 2017, the US$642mn (215% of quota) three-year EFF aims to ensure macroeconomic stability, balance of payments stability and fiscal policies, which help to ensure debt sustainability through fiscal consolidation. The review completion allows for the disbursement of US$123.5mn, bringing total programme disbursements to US$518.5mn. Authorities’ requested waivers for non-observance of some performance criteria were also approved. 

    Vietnam (VIETNM): On Wednesday, Moody’s affirmed Vietnam’s long term foreign currency rating at Ba3, with a negative outlook, after placing it under negative watch for downgrade on 9 October. The avoidance of a rating downgrade comes as Moody’s concluded that authorities’ attention on direct and indirect obligations reduced the risk of delays on upcoming payments. Moody’s also noted that Vietnamese banks’ financial health had improved in recent years. A downgrade could result from a delayed future payment, while the outlook could improve to stable if it becomes clearer that future obligations will be met. 

    Sri Lanka (SRILAN): On Wednesday, Fitch affirmed its long term foreign currency rating of B for Sri Lanka, but changed its outlook to negative from stable. The main reason was rising debt sustainability risks stemming from November’s announced fiscal stimulus package and the ‘roll-back of fiscal and economic reforms’, following the presidential election. 

    Province of Buenos Aires (BUENOS): A negotiating group of creditors of Argentina’s Province of Buenos Aires bonds has been formed after the new governor said the Province will not be able to meet all its near-term obligations. The creditor group has appointed Broadspan Capital and Mens Sana Advisors as its financial advisor, according to a press release. According to Bloomberg, the Province of Buenos Aires faces an amortisation payment in January 2020 of US$250mn and another US$450mn in June on its US$-denominated international bonds.

    The next edition of Credit Risk Monitor will be published on 9 January 2020.