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Central Asia-Caucuses’ Seared Stargazing

2020 July 29 by

The World Bank’s Central Asia/Caucasus review depicted “dark skies” for the region with a recession worse than the global financial and subsequent 2015 currency crises. Output will contract almost 2% in contrast with the original 4% pre-virus forecast, with oil and gas exporters Azerbaijan, Kazakhstan and Turkmenistan suffering from the price crash in the commodity accounting for one-third of GDP.  Importers in turn like the Kyrgyz Republic, Tajikistan and Uzbekistan face reduced Russia remittances and supply chain disruptions in Asia and Europe. Armenia and Georgia will absorb tourism blows, and exchange rate impact ranges from the flexible Kazakh tenge hitting new lows to the more stable managed Kyrgyz and Tajik units. In 2019 growth was “resilient” at near 5% in 2019, on wider current account deficits reflecting both import and export squeezes. Fiscal balances will also deteriorate on health and social outlays, and increased retail and mortgage credit has combined with slacker standards under subsidized programs in Azerbaijan and Kazakhstan. Bad loans and liquidity pressures will accumulate as forbearance and central bank support are planned for households and small business. Most countries in the area have banned travel and imposed lockdowns, and Kazakhstan’s central bank hiked rates almost 300 basis points. It rolled out the biggest stimulus at 9% of GDP, and Armenia’s was one-third that size, and the bank urges steps to facilitate medical supplies and treatment. Fiscal space is limited, and deficit widening should be temporary, while monetary tightening may be needed to defend currencies and capital inflows. Outright controls should be a last resort, and macro-prudential policies the immediate resort if outflow tension persists. The region is in line for IMF Rapid facility access to reinforce these approaches, with the Kyrgyz Republic the first recipient of a $120 million line.

The publication also covered the MENA group with “drastic economic decline” in store with the Gulf GDP tumbling 3%., and Algeria, Iran and Iraq are off even further at 5%. Libya’s civil war will produce another 50% plunge, while Yemen’s contraction could tail off at 3% amid cease-fire rumors. Saudi Arabia, where reserves shrank the most to date in March, still has ample fiscal buffers, but Bahrain and Oman are hard-pressed. Regional current account balances will hit a 6% deficit, double the previous surplus. Public wage bills and pensions remain too high Iraq and Kuwait, and tourism declines will exacerbate strains in the UAE and elsewhere. Supply and demand and remittance shocks will batter Egypt, Jordan, Morocco, Pakistan and Tunisia, on steeper budget and trade deficits. Tax relief and subsidies, and rate cuts and direct credit help will drive virus response, but countries already with mixed records under IMF arrangements will struggle to maintain sound macro and structural performance. In Jordan and Lebanon the Syrian refugee crisis compounding their predicament is now a decade old with no end in sight and almost two million in camps and informal jobs between them. The pandemic brings “another vulnerability layer” but ultimately these communities should be integrated into mainstream livelihoods and medical care as emergency phases pass, the document directs.

The UN’s Sovereign Debt Meltdown Scoop

2020 July 16 by

The UN Conference on Trade and Development (UNCTAD), in a report “From Great Lockdown to Meltdown,” highlighted the developing world’s cramped fiscal and monetary space to tackle coronavirus amid “critical” foreign debt burdens and called for reconsideration of a global restructuring body. The idea had gained momentum through the IMF two decades ago after the Asian financial crisis and its aftermath, but the US Treasury department and major emerging markets were lukewarm, and it was recently revived by academics including Argentina’s now Finance Minister as he proposed separately large reductions and delays in an exchange offer after the Fund declared the $60 billion outstanding unsustainable. Creditor groups spurned these terms and accused the government of repeating a pattern of not negotiating in good faith and sharing information. Economic forecasts were further clouded with Covid’s onset, with officials ordering mass closures and unleashing social spending and business support. In low income countries, the outsize informal sector does not fall under this safety net, and the choice is between starvation and illness, UNCTAD believes. Public and private debt combined is already 200% of GDP for the broad universe, as previously untied aid has fallen and relates to specific environmental and governance conditions. External debt is widely held commercially, and non-residents own double-digit portions of local bonds. Servicing costs roughly doubled to 10% of GDP the past five years, and trillions of dollars come due this year and next against the paltry estimated $20 billion bilateral pause the G-20 agreed mainly for the poorest countries. The first to formally ask was Pakistan in the next income category although it qualifies also for development lender concessional terms, and has also lost access to Gulf remittances and assistance. Outright relief is not on the table, and traditional facilities do not meet the scope and flexibility the unique health challenge requires. With increased Special Drawing Right (SDR) issuance also a non-starter with US opposition, the publication urges an overdue “new deal” starting with longer and more comprehensive standstills as a prelude to actual restructuring on a case by case basis. As a historic precedent it cites a 1950s conference on German war reparations, and targets $1 trillion in cancellation, At the same time through treaty an “International Debt Authority” would oversee the process, to reprise the 2000s push and fill a 75th anniversary gap left from the original Bretton Woods agreements. In an update also released in April the Bank for International Settlements (BIS) showed 5% higher cross-border lending through end-2019, although emerging market lines were up slightly. They were divided evenly between local and foreign claims in major regions, but short-term maturities less than a year at almost $2 trillion were half the former. The highest shares at 60% plus of the total were in China and Korea, while in Poland, Russia and Turkey they were below 50%. Austrian and Spanish banks have majority developing market exposure in global books, and US and UK ones tilt toward short-term credit. Untapped facilities came to $600 billion, one-tenth of the total stock, and the next installment will reveal if they were locked or used for virus lockdown.

The World Bank’s Dark Migration Lens

2020 July 3 by

The April World Bank Migration and Development report predicts that the “long and pervasive” COVID-19 wave will slash remittances 20% to $450 billion this year, although foreign direct and portfolio investment will fall even more, as the population is stranded and hardest hit by lockdown-related job and income loss. Average money transfer cost remains double the 3% goal and the pandemic highlights lack of health care access and a medical professional shortage that could be addressed with easier cross-border movement. Since the Spanish flu a century ago universal economic standstill is unprecedented, with the IMF forecasting 1-2% developing world GDP decline. Through the “lens” of sectors worst affected including tourism, retail, food and manufacturing low-skilled expatriate workers are at risk of widening the unemployment gap over natives after the difference in Europe was 5% during the 2008 financial crash. They are unable to return home with travel restrictions, as the wealth split grows with industrial countries and internal migration continues at over double the international pace. Containment has increased infection odds as governments round them up for camp and shelter placement, the publication points out. Remittances are historically counter-cyclical, but this time home and host countries suffer alike.  Low income ones have the greatest dependence at 9% of GDP, and this year’s drop is across all regions and “especially sharp” in Europe, Central and South Asia and Africa. At source Russia’s ruble is also down against the dollar, and Persian Gulf oil prices are at record lows. Even with a slight projected rebound in 2021 the sum will lag the level five years ago, as fees are stuck and may spike with disease quarantine service disruption. Providers are typically considered “unessential” and migrants often cannot pass due diligence for digital delivery. Basic healthcare availability is likewise skewed according to a survey of 125 countries where only 80 offer full local citizen scope.

Transfers to the Philippines rose at the same clip to $35 billion in 2019, and may now tumble 20-30% from Saudi Arabia in particular. Manila will allow workers to return to the Gulf and China to fulfill contracts, but they have been suspended and eliminated with drives like “Saudization.” Almost 1000 overseas Filipinos tested positive for Coronavirus, and crackdowns have extended to Singapore following a case spike in that community. In the CIS, Ukraine took in $15 billion from Poland, and the Kyrgyz Republic and Tajikistan got nearly 30% of income from nationals in Russia, often in construction. The Russia-Ukraine corridor is under the 3% expense target, with the lowest from Moscow to Azerbaijan. With airport shutdown Central Asian migrants camped out in terminals for weeks in unsafe and unsanitary conditions. In North Africa Morocco and Tunisia can expect 15-20% dips from Europe, as the Middle East has the largest forced displacement tally from conflicts in Syria, Iraq and Yemen. India and Pakistan totals will reduce 20% , and Sub-Sahara Africa faces the same magnitude leading to “further poverty and deprivation,” the analysis notes. Nigeria is the continent’s top recipient with a $25 billion in 2019, but fees from Ghana are the highest globally, and it is also vulnerable to capital outflows with a thin reserve cushion under that lens.

The IMF’s Pernicious Perfect Storm Tracking

2020 June 18 by

The IMF’s spring global financial stability snapshot published around the post-virus virtual meetings described an emerging and frontier market “perfect storm,” with record capital outflows from leveraged and low-rated borrowers inviting a restructuring wave. Global central banks have rushed credit and liquidity relief as their own financial institutions, including asset managers and insurers, are squeezed, as countries in the firing line roll out fiscal and monetary packages and consider exchange rate interventions and restrictions. The government bond stock with yields less than 1% doubled the past year to 80% of the total, as riskier corporate segments valued at  almost $10 trillion sold off across the board. US high-yield default prospects reached 10% as the market closed, as standard commercial paper and dollar funding also evaporated. Equities at overstretched levels were not spared, as earnings per share forecasts went negative. The MSCI index dropped 20% as commodity-producer listings in particular were abandoned with price collapse. By the end of March EMBI spreads were 700 basis points over US Treasuries, on a combined $100 billion in foreign fund outflows for the quarter. China, where the coronavirus bred, was an exception to tighter financial conditions as officials ordered credit support and investors continued to buy securities to match index weightings.

The IMF’s April World Economic Outlook predicted 3% GDP contraction this year, with a probability it could be double that figure with further virus spread and extreme containment measures. With this scenario emerging financial market instability will deepen and “permanently scar” bank balance sheets, the analysis warns. These “cracks” will also appear in developed markets with asset losses and bad loans and pressure low liquidity and profitability. The EM sudden stop and oil price crash is a harder stress test than in 2008-09 with increased leverage and reduced policy space. Big Gulf debt issuers are geared to hydrocarbons; interest rates are already low; and structural budget deficits in Brazil, South Africa and elsewhere are high. Foreign investors in turn are bigger owners of domestic stocks and bonds, and quasi-sovereign borrowers like Pemex will continue ratings downgrades. Shadow banks in China and India are in trouble, and trade finance has disappeared in African economies. Frontier market rollover needs are above $5 billion annually, with Zambia likely the first in regional defaults.

Currency intervention programs are widespread in major developing economies Mexico, Indonesia and Russia to tamp volatility, but longer-term adjustment is recommended after the viral outbreak subsides. Capital controls are acceptable if temporary and transparent, an endorsement reflecting a longtime shift from traditional orthodoxy as the Fund looks to offer its “integrated policy framework.” Sovereign debt managers in turn should prepare contingency plans to complement existing strategies that may involve “preemptive” commercial obligation rescheduling and restructuring. The G-20 has approved an official bilateral standstill still to be defined in detail as to non-Paris Club creditor participation. Multilateral cooperation is through the IMF’s $1 trillion in available nominal resources, but should also embrace home and host country financial regulation and medical trade, with essential supplies open to export and free from price controls to avoid more health complications, the review concludes.

Private Investor Associations’ Halting Healing

2020 June 11 by

First quarter emerging debt and equity market results were as grim as the global coronavirus swept through Asia with other regions now in the crosshairs, with investors dumping positions to cover portfolio losses elsewhere and fearing intertwined health, economic and financial disaster. The main indices showed double digit declines as key currencies depreciated by the same magnitude against the dollar; agriculture and metals joined oil in commodity collapse; and remittances, tourism and foreign direct investment halted along with portfolio inflows. Fund data estimated combined securities outflows in the $100 billion range for the period, a record in absolute terms and swifter reversal than during the US Federal Reserve taper tantrum five years ago and the 2008-09 world financial crash.

With indefinite supply and demand virus-related shutdowns adding to previously-predicted domestic demand and export weakness, economies are expected to contract across the fifty countries and the main MSCI and JP Morgan indices to be negative this year. Stocks have given back most of their gains the past two years, as sovereign and corporate defaults cascade. Frontier market issuers like Zambia have already signaled restructuring, and high-yield company non-payment is on track to double for 5% of the total. Both retail and institutional investors will continue to exit through active and exchange-traded funds. According to fiduciary and risk management guidelines, they must leave when local bourses curb dealing hours or countries limit foreign exchange access, as in post-pandemic cases throughout Asia and Africa. Rumors of widespread capital controls, formerly endorsed by the International Monetary Fund as a temporary emergency measure, reinforce private commercial pullout, as official sources scramble to plug the gap and provide disease help.

Dozens of countries are in negotiations with the Fund for rapid and standard facilities, and it may ultimately marshal most of its $1 trillion in reserves, Managing Director Georgieva pledges. The World Bank Group has headlined a multi-year $150 billion commitment, including through its IFC arm for trade finance and capital market development. Other multilateral and regional lenders, including new actors like the Asian International Infrastructure Bank (AIIB), are also weighing in with billions of dollars in infrastructure and social support. Increased bilateral lines come from aid agencies and central banks, with the Federal Reserve introducing a repo arrangement for emerging market counterparts to borrow against US Treasury bill holdings. Banks and fund managers, through industry associations like EMTA for debt, the Institute for International Finance, and EMPEA for private equity, have not begun to channel and organize their own response as individual members reel from the immediate calamity and longer-term asset class stress.

The emerging and frontier market allocation rationale has always been high risk-reward, with the prospect of eventual convergence toward advanced economy living standards aided by government and corporate institutional reforms and industry competitive openings. In recent years returns and growth have been lackluster, with stagnant productivity gains and currency and trade battles heightening business and financial sector controls and protectionist sentiment. This year, three decades after launch of the asset class, longtime observers were originally hopeful that economic model revamping and further integration, technology and sustainability pushes would herald renewed embrace within updated globalization. The Covid pandemic and foreign investor retreat have delayed but not scuttled this vision. Lockdown strategies, fiscal and monetary policies and central bank quantitative easing have all converged and globalized. Developing economies must be more wary of increased budget deficits and exchange rate pressure with interest rate reduction to revive confidence, and recognize the need to deepen government bond markets to facilitate primary and secondary buying. Building on these pillars and previous commercial and structural intentions, health interventions and international fund manager organizations working with the IMF can restore participation and performance foundations, so that 2020 may end as it began on an optimistic note.

The EBRD’s Insitutional Investor Instigations

2020 June 4 by

The EBRD with market research firm IHS Markit updated its member country equity investor survey, with data and findings through mid-2019 after the previous 2017 tabulation. It looked at infrastructure, trading, capitalization and liquidity; corporate governance and transparency; and general political and economic background to assess individual market and regional “attractiveness.” Respondents preferred higher free-float and turnover ratios, and cited weightings in benchmark indices as passive and active managers. The biggest global houses like Black Rock, JP Morgan and Schroders are in all geographies, while others were country and investment-style specialists. Net exposure rose $25 billion over the period to $250 billion through 2200 surveyed firms, with Russia and Turkey at the most inflows while Central Asia had outflows. Central Europe and the Baltic states were the most popular allocation from two-thirds of the sample, and diversification was an overriding theme with exporter listings favored. Low valuations in the Mediterranean exchanges and good dividends in Russia were drivers, and small company “value” players targeted frontier locations. Commodity price swings and sanctions faded as concerns, replaced by worries over labor and anti-corruption backsliding. Over a three-year horizon sentiment was mostly bullish, but Central Asian and Middle East markets were viewed as too remittance dependent and politically charged. Participants predicted solid but not fast GDP growth, and worried about capital flight from Turkey and elsewhere. To boost liquidity they call for more privatization of state-owned enterprises and cross-border bourse ties. Custody, settlement, tax, and regulatory barriers persist, and portfolio balancing to bonds is limited with thin secondary trading. Consumer, financial and telecoms stocks were broadly embraced, among standout local stories like tourism in Croatia. ESG factors were a priority with an emphasis on business reputation and sustainability, with notable leaders in unlikely markets Egypt, Georgia and Slovenia. Internal practice such as board independence was considered equally with outside avoidance of child labor and energy waste.

In the EBRD universe strategic investors dominate with almost 60% ownership, followed by institutions (25%) and insiders (15%). Of the institutional share, Europe domicile is over half, with North America at 7.5% and the Middle East 2%. Vanguard from the US and the Qatar Investment Authority lead, both with allocations of almost $15 billion. “Aggressive growth” was the top approach for 40% of assets and almost $200 billion was actively managed. Over two-thirds of respondents were “buy and hold,” and the most diversified included Eaton Vance, Aberdeen Standard, and East Capital. Asian and Moroccan banks also featured, and private equity dual portfolios were headed by Russia’s Prosperity Capital. The update was completed long before the coronavirus arrival, with global commodity, value chain, remittance and tourism shares at greatest risk. Fiscal and monetary support is aimed at retail and strategic business, and the EBRD launched its own trade finance facility as member countries separately inundated the IMF and World Bank with emergency health and debt rescheduling requests. Reflecting the new program emphasis, economic research has expanded to measure such overlooked investor considerations as medical spending and physician availability. According to an April table about half the near 40 nations have low or moderate scores in these categories that may further sap strength against the disease.

Corporate Defaults’ Doubling Down Stakes

2020 May 28 by

With the raging coronavirus, oil price crash, and US dollar climb combining to cramp high-yield corporate issuer access and soundness, sell-side houses have doubled the default forecast to 5%, with Middle East hydrocarbon companies most at risk. That figure is still half the 2009 crisis level, but equal to the taper tantrum fallout five years ago when big emerging economies with fiscal and current account deficits were in the crosshairs. Quasi-sovereign names should be spared, and Chinese property developers likely can rely on onshore backup as the country restarts from the earliest virus rampage. Outside weak known categories like Argentina and Chinese industrials, a large chunk of the universe pre-financed last year and through February when appetite remained. Frontier country participation in turn is small at $70 billion mainly from Jamaica, Ukraine and Nigeria. The distressed fraction below $70 is 15% of the total, and under $50 is 5%, in line with recent crisis trends but far short of the 2009 crash when it was over half of volume. The status is more due to panic selling than poor credit fundamentals at this stage, but certain sectors and businesses are clearly in trouble. Airlines will not soon rebound from health-related travel precautions, and Digicel out of the Caribbean proposed a below par exchange on $2 billion in notes in March. An estimated $70 billion is due this year in the high-yield/unrated segment, out of $250 owed for external corporates overall. With the international channel now closed, most firms should be able to tap local banks and bond markets, but real estate sponsor demand in China may crowd out other candidates. Indonesian refinancing is more elusive, but large near-term maturities do not loom. Should global fixed income volatility continue as measured by the VIX and other gauges, the spread over US Treasuries could magnify to almost 1000 basis points, according to JP Morgan calculations.

Corporate Eurobond trading was $925 billion or 17% of total turnover in 2019, and was outpaced by sovereigns with a 60/40% relative split, trade association EMTA reported. Brazil’s Petrobras was the leader, and Brazilian instruments came in second behind Mexican as the most popular generally with $780 billion in activity. Local debt was over 55% of the total, with Indian, Chinese and South African bonds among the favorites. Argentina dominated sovereign Eurobonds with three frequently traded offerings accounting for $250 billion. It is under virus quarantine and Economy Minister Guzman has signaled that the restructuring offer timetable may slip even as the contours of previously-outlined proposals prepare investors for steep interest and principal reductions. As an academic he also advocated GDP-linked instruments beyond the growth warrants contained in the last swap, and the IMF has released policy and technical papers on the subject that may finally see practical application. The Bank of England and International Securities Markets Association also organized working groups around the theme that could be mobilized in the current Argentina deal, and may also feature in neighbors skirting default with commodities and tourism collapse to double the reach.

Iran’s Banking Sickness Swoon

2020 May 21 by

Iran, presumably through the conduit of close Chinese business and diplomatic ties, has been among the earliest and most severe concentrations of the coronavirus pandemic. With tens of thousands of infections and thousands of deaths reported going into the Persian New Year season, parliament shuttered with spread there following local elections where the cleric-led Supreme Council disqualified perceived economic reform candidates. The epidemic and accompanying price crash in oil, the main export subject to US sanctions have dominated the government agenda, despite cabinet ministers in quarantine or already sick.

In an historic move, the central bank formally requested $5 billion from an International Monetary Fund rapid facility to handle the disease fallout, as it approached allied lenders like the Islamic Development Bank and Asian International Infrastructure Bank for help. At the same time it reported a 50% annual jump in banking system lending to fund the fiscal deficit, with President Rouhani’s cleanup and modernization agenda on indefinite hold with the dual sanctions and Covid-19 confrontations. The state-dominated system, with capital adequacy estimated at half minimum Basel standards, and bad loans at one-quarter or more of portfolios, will be pressed further on announced  business and consumer support programs around the health emergency after decades of dysfunction and weakness. The IMF has long recommended sweeping changes in Article IV surveillance reports, and as part of future agreements the agency with Washington’s backing could work with Tehran to promote fixes that could also thaw bilateral relations.

With the Trump Administration further ratcheting up sanctions after formally designating the Iran Revolutionary Guard Corps a terrorist organization, the Institute for International Finance (IIF) projected the economy would decline another 7% this fiscal year ending in March, after shrinking 5% in the period after joint nuclear deal breakup. Oil exports now under total US prohibition after initial waivers for neighbors and Asian countries slid to only several hundred thousands of barrels/day, compared with over 2 million in 2018. Budget figures have not been released for more than a year, but the IMF forecasts an 8% of gross domestic product fiscal deficit. Inflation officially runs around 20% but food price increases are double that level, and the currency is no longer in free fall against the dollar and has settled again toward the 150,000 range, or triple the fixed 42,000 exchange for essential imports under the multi-tier system. The IIF report expects a shift to annual trade deficits amid the continued sanctions squeeze could leave only $20 billion in international reserves by 2024.

The central bank, which has suffered coronavirus deaths among its own employees, offered in March a package of low cost loans to millions of individuals and businesses to cover damages, along with a three-month moratorium on loan repayments. The eligible industries span the spectrum from hospitality and tourism to agriculture, textiles and tourism. The lines were on top of a 30% annual increase in government debt to banks as of December, along with a reported $110 billion in outstanding private sector debt as Tehran pledges sanctions relief to existing large and small firms and support for high-tech startups.

Prior to these stresses, a June 2019 Peterson Institute for International Economics analysis from a former IMF staffer flagged a “slow motion banking crisis.” It described “problems brewing over decades” from state interference, corruption, and missing regulation and supervision. Despite chronic liquidity and solvency pressures, runs have not materialized due to emergency central bank assistance, de facto deposit guarantees, and limited savings alternatives aside from the stock exchange. It registered a triple digit gain through March, but has a narrow free-float for retail investors. The government controls 70% of system assets through “complex ownership structures and interconnections,” and only recently brought unlicensed shadow banks under oversight after several headline failures. In 2018, as President Trump withdrew from the nuclear agreement, Iran’s parliament put the unofficial non-performing loan ratio at 50%. Capital adequacy was only 5% of assets against the Basel 8-10% recommended standard. Against basic banking law provisions, the central bank as a “lender of first resort” has provided large liquidity facilities without collateral. It extends “exceptional regulatory forbearance” instead of demanding recapitalization and restructuring, according to the Peterson Institute research.

International financial reporting standards have been adopted by several listed banks on the stock exchange, and their share prices collapsed with trading suspended after finding fraud and balance sheet holes. The Financial Action Task Force recently returned Iran to its “black list” for failure to pass anti-money laundering and terror funding rules. Iran has asked the United Nations to block US sanctions during the Covid crisis, as the Trump administration recognizes humanitarian exemption and previously approved a dedicated commercial funding channel. It can extend this logic and allow Tehran’s application to the IMF and World Bank as the biggest shareholder for direct lending and technical assistance. Both health care and banking system strengthening could feature on the intertwined agenda, and Washington, in promoting disease control and free-market reforms, can test rapprochement that could broaden through these institutions.

Contagion’s Contemporaneous Collision Course

2020 May 14 by

Emerging market veterans after decades of crises, including the US Federal Reserve taper tantrum scare five years ago and the fallout since 2018 of Argentina and Turkey debt woes, are always on the lookout for so-called asset class or portfolio contagion, when common economic and financial sector squeezes and fund redemption needs spark large selloffs. Even though the literal form with the coronavirus pandemic originated in China and reached first to neighboring Taiwan, Thailand, and Korea several months ago, investors did not grasp the dual health and financial market threat despite ample warnings on both fronts. In Asia, swine disease that was monitored for potential human jump caused pork shortages raising food prices and inflation, and was on the radar for tourism, a large contributor to current account inflows. The region previously had selective outbreaks of respiratory system virus that came from the Middle East, and Chinese authorities were on notice of the Ebola spread in Congo with close mining connections there. Banks and non-banks reportedly pulled back on credit lines to affected businesses amid heightened regulation to reduce outstanding corporate and consumer debt burdens, often in the high double digit danger zone as a portion of gross domestic product.

Emerging stock markets were down through February on the benchmark MSCI core and frontier indices, but China and Asia outperformed Latin America and Europe in the former as the largest weighting. On the latter Africa, Middle East and Central Europe components had a few positive results as the overall gauge had fallen only 5%. Local and external government and corporate bond markets showed slight gains, as spreads over US Treasuries as a measure of risk continued to narrow. For domestic instruments the average yield was 5%, still representing a large pickup over advanced economy negative and low ones to drive allocation. A few analysts raised the specter of another SARS or AIDS emergency as in decades past, but even when these epidemics were raging they have not been pivotal in decision-making against traditional growth, policy, reform and technical categories.

As Covid-19 went global in March, with total demand and supply shutdowns and fiscal and monetary policy rescues, the immediate market carnage has paralleled the 2008 financial crisis. Currencies, equity and fixed income are off at least 20%, amid weekly fund outflow records at tens of billions of dollars, according to industry trackers. Several stock markets have curtailed operations or closed temporarily like in the Philippines, as they also consider or institute short-selling bans and tap state-owned and private institutional buyers for support. The IMF and World Bank, as the only two development agencies with worldwide presence and necessary firepower, initially combined to offer $65 billion in dedicated facilities to counter the disease and its economic fallout. The Fund put $50 billion aside and was soon swamped by dozens of requests, including from Iran which has not approached it for decades and is under strict US commercial sanctions. New Managing Director Bulgaria-born Kristina Georgieva, the first from an emerging market, has indicated a willingness to deploy a bigger share of its $1 trillion in reserves, roughly equivalent to the developing world damage observers tally with simultaneous oil and other commodity price collapse. The Bank has extended both concessional loans and technical expertise, with its IFC arm activating trade finance lines to maintain exports and value chains.

Growth forecasts were modest at around 4% amid global end-cycle near-recession worries before the health disaster, and double-digit output declines in the coming quarters will leave a barely positive showing at best by end-year across major markets. Fiscal and monetary easing is part of the standard playbook even if bigger deficits and additional currency depreciation result. Structural reforms like privatization and business climate overhaul will likely fade on the agenda as governments turn inward and enact more controls for pandemic protection. They may try to postpone bank and non-bank cleanup, but a cascade of stress and insolvency has been clear in China and India and elsewhere, such as Lebanon where it is coupled with sovereign default. The massive foreign investor exit in turn highlights the urgency of building and strengthening domestic private pension fund bases, which have eroded or never taken off in Asia, Europe and Latin America. Frontier Middle East-Africa should concentrate on establishing domestic debt and cross-border securities platforms as mid-decade priorities. However health, migration, and environmental threats with this universe in the frontline must be weighed equally in the future as contagion assumes a more complex definition.

Lebanon’s Delusional Default Designs

2020 May 7 by

Lebanese stocks at the bottom of the MSCI frontier market pack last year continued to slide through March as the interim government prime minister, a former academic, declared the 150% of GDP public debt unsustainable and officially defaulted on a $1.2 billion Eurobond payment. The rest of the $30 billion outstanding, around half the domestic amount, will be restructured as he warned that the “delusion” of choosing between covering imports and reimbursement with thin foreign reserves had ended. Prior to the action the sovereign credit rating was downgraded to near bust “CC,” while index providers weighed expulsion from benchmarks on tightening capital controls with the informal exchange rate reflecting 25% depreciation in the longstanding 1500/dollar peg. The instrument price plummeted toward the 20-30 range and default swaps will soon be triggered as ISDA rules set the clearing auction level. Local commercial banks are the overwhelming holders after a series of central bank high-yield “financial engineering” maintained subscription in recent years. They lost $15 billion in deposits in 2019, and apply curbs on daily withdrawals and may now face balance-sheet write-downs.

 The IMF and World Bank have been contacted for precautionary facilities and technical advice, as a $10 billion previous international aid package remains in limbo pending fresh elections and structural reforms to close the chronic fiscal deficit. The regime set off large scale violent protests with a proposed internet use tax, following an extended failure to collect street garbage and provide reliably electricity through the state electricity company. The government named legal and financial advisers for negotiations, and UK-based Ashmore has a blocking stake in short term maturities with the 75% collection action clause voting threshold for new terms. The true reserve position will drive the process, with Fitch Ratings estimating that it may be $40 billion net negative with lines to domestic banks and other institutions, including satisfying correspondent relationships essential to diaspora business. Authorities had earlier floated a swap to lengthen tenors quickly exposed as unrealistic with interest payments already gobbling up 40% of shrinking budget revenue. The remittance scare with massive unrest also coincided with a Gulf tourism break amid economic worries in that region, and the prospect of another Syrian refugee wave as President Assad and Russia cleaned out the last civil war rebel pockets.

Neighboring Mideast markets were largely trading flat with their own fiscal and current account gaps and mixed IMF program record. Egypt as the sole core universe representative lost luster as last year’s favorite with privatization listings slow to materialize and a regime crackdown on political opponents, reinforced by austerity measures, heightening investor and tourist unease. Jordan has its own teeming Syrian refugee population alongside the legacy of the Palestinian one, with the long awaited Trump administration peace proposal with Israel complicating and narrowing the parameters for an eventual separate state. The King replaced the cabinet after subsidy cut and living cost demonstrations, but it has yet to inspire business and financial community confidence. Tunisia after months of wrangling agreed on ruling coalition formation but the party lineup is volatile as Fund policy items are delayed and missed, with economic “spring” readily cast as a delusion.