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Ukraine’s Unimpeachable New Program Sentiments

2020 January 24 by

Ukraine shares looked to reverse MSCI Index double-digit loss into the new year, as the Zelinsky government with an overwhelming parliamentary majority and no elections until local ones in late 2020 set out to ink a successor IMF deal with shared anti-corruption and privatization elements. Another $5 billion-plus extended arrangement is under negotiation, although it may be precautionary despite large public and private sector debt repayments if foreign direct and portfolio investment jumps on expected land reform and refusal to return failed Privatbank to controlling oligarch hands. The relationship between that shareholder Kolomosky and the President since they teamed on the former’s television network is at the heart of banking system and donor direction, since a clean break is presumed to firm cleanup credentials. The central bank has been the target of media and personal attacks for nationalization and criminal prosecution and asset recovery steps, with billions of dollars in insider cash allegedly spirited out of the country. Kolomosky’s wealth remains frozen despite London court action, but the cohort’s reach is illustrated by close ties with members of the Trump inner circle among associates of accused money launderer Firtash around the impeachment scandal. Lawyer Giuliani reportedly signed up several Ukrainian clients seeking diplomatic favor and competition with the Naftogaz energy monopoly. Former and current administration officials lobbied for personnel and commercial changes and were part of a push to investigate former Vice President Biden’s son previously serving on the board of a private rival, according to witness testimony to Congress.

The economic backdrop has brightened for Fund facility renewal with growth estimated at 4% through next year on 6.5% inflation in the third quarter, enabling a 100 basis point benchmark rate drop. Food prices are under control with a good harvest, and the currency has stabilized around 25/dollar on a 3% of GDP current account deficit. The 2% budget gap target is on track, and higher gas transit fees and tax collection are possible for further consolidation. Warrants in the original external debt restructuring should pay off with growth above 3%, but the 50% ratio to output remains worrisome as technocrats in Kiev mull another haircut or maturity extension proposal. Geopolitical adversary Russia has a suit outstanding from the Yanukovych era for un-serviced loans, as its banks have taken over networks in Crimea and the east. Presidents Zelensky and Putin may meet amid an unobserved cease-fire in the civil war, as thousands of families are displaced in the Donbas region without access to humanitarian relief. Russian growth is half Ukraine’s with oil exports subject to tricky production understandings with OPEC, and big infrastructure projects slow to materialize as a means also to defuse popular protests. The central bank tapered interest rates and the Kremlin drew on the stabilization fund for modest stimulus, with inflation within the 4% medium-term target. It plans to “de-dollarize” the sovereign wealth pool to avoid Washington’s sanctions ambit and ride ruble appreciation, as it also unveiled an exchange blueprint for smaller and lesser-known companies in the net to raise debt and equity locally. Despite a 30% MSCI surge share manipulation persists in creative forms, the latest a Foundation created for technology listing Yandex to ensure against state ownership removal.

US Development Finance’s Forgotten Franchise

2020 January 17 by

The new US International Development Finance Corporation (DFC), merging the foreign private investment promotion agency OPIC with the credit support functions of the main overseas development arm USAID, started in October with rare bipartisan political and consensus emerging market expert backing. Recommendations to overhaul the decades-old model dated back to the Obama administration. It gained momentum under President Trump, who has otherwise moved to cut economic assistance, as a financing and geopolitical competitor to China’s global multi-trillion dollar Belt and Road Initiative. The restructuring doubled OPIC’s original balance sheet exposure limit to $60 billion, and added equity to debt, guarantees and risk insurance in the toolbox to spur direct and portfolio inflows to low and middle-income countries.

A September report by the Washington-based Center for Strategic and International Studies (CSIS) acknowledges that the DFC cannot match China’s policy banks and state enterprises “dollar for dollar” in underwriting infrastructure and natural projects throughout Asia, Africa and Latin America. It advises focus on other potential comparative advantages such as technology transfer, small business funding, and capital market creation.

This last category, concentrating on stock exchange launch and modernization, can be an all-encompassing theme with maximum “bang for the buck.” At the same time, it could revive the US aid establishment’s glory days during the 1990s and early 2000s, when securities market introduction was a priority in post-communist and socialist transition economies in Europe and frontier and developing markets worldwide. Emerging market investors, in search of an underlying story for the asset class into the future, could in turn organize dedicated advisory groups as in the past.

CSIS predicts that internal administration and strategy delays will likely keep annual DFC commitments below $10 billion in the initial phase. It begins with 300 staff and a 90-country portfolio, and a lower minimum US investor participation requirement. A fifteen-member board of directors from the cabinet and outside government, and independent panel of academics and advocates yet to be named, will provide governance and guidance. Inherited operations total close to $25 billion with a roughly even split between regions, and one-quarter in “fragile” states.

From a foreign policy perspective, job creation and private sector growth are priorities in the Middle East and Africa to counter terrorism, and in Central America’s Northern Triangle of El Salvador, Guatemala and Honduras to curb mass migration. In Africa, the intent is to leverage parallel US government programs on power generation and trade.  DFC also has expanded authority to offer technical assistance and local currency debt guarantees and to diversify the range of existing venture capital “enterprise funds.” Earlier versions spurred private equity takeoff throughout Central and Eastern Europe, which in turn spurred European Bank for Reconstruction and Development support for public markets.  

OPIC, over its 40-year life, could claim no net cost to the taxpayer as earnings were returned to the budget, often under risk-averse management as high-return assets subsidized poor country engagement. USAID over the past fifteen years largely abandoned capital markets as a core emphasis, as technical assistance shifted to a small Treasury Department unit promoting government bonds throughout the developing world.

After the fall of the Berlin Wall thirty years ago, the US administrations relied on a private sector ecosystem to advance financial market transformation that has since withered. Wall Street bankers and fund managers took short-term assignments in Europe and elsewhere under a Financial Services Volunteer Corps still in existence, and the Nasdaq dispatched experts and encouraged nascent stock exchanges to adopt its over the counter system, as with the Rasdaq in Romania. After the emerging market term was first coined in the late 1980s, Washington had a roster of brokerage executives on hand to travel to far-flung destinations like Kenya preaching the securities gospel.

The African Development Bank has since launched its own initiative mainly for bond markets, and the continent now has half a dozen regional equity components on the benchmark MSCI frontier stock market index. Performance has been overwhelmingly negative this year, as foreign investors decry chronic liquidity and size constraints. Stock exchanges in East and West Africa have long explored cross-trading and consolidation with little progress, as South Africa remains the runaway depth and diversity leader, according to an annual reference compiled by regional banking giant Absa in collaboration with London’s Official Monetary and Financial Institutions Forum (OMFIF). The continent and other overlooked regions such as Central Asia, where Uzbekistan is in startup mode, could be early targets for DFC “soft” infrastructure help in contrast with China’s approach. The payoffs would come in stock market volume and results reflecting increased private company access to finance in the frontier universe, as well as official reputation and investor coalition revival for an impressive triple bottom line debut.   

US-China Trade’s Diversion Divination

2020 January 10 by

Amid continued speculation over a “Phase 1” US-China trade deal while mutual tariff increases are on hold, an IMF working paper points to likely distortions under a “managed “ outcome assuming agreement on higher American imports. In this way global benefits in terms of commercial efficiency and policy certainty are diluted in an effort to remedy bilateral imbalances. The research looks at the top ten products, and assumes that commodities are more substitutable than manufactured items. It finds that big economies like the EU, Japan and Korea will be hit from car, machinery, and electronics exposure, as well as small emerging markets implicated directly or in supply chains. On agriculture, China’s decision to purchase more US soybeans would affect Argentina, Brazil and Canada. Correcting the roughly $350 billion trade gap would entail 2-3% export diversion of ASEAN economies and South Africa, as well as tinier partners Angola and Oman. In a final “cascading” tally of specific categories for US and China sale the study reveals that “intensive” raw materials producers such as Mongolia and the Congo would lose the most, while Indonesia and Russia would suffer 0.5% contractions. With these risks the document urges that an eventual pact also take into consideration spillover into the multilateral trading system, where WTO and other bodies may propose safeguards.

China “A” shares still lead the MSCI index with an over 30% advance, along with Greece which was the subject of a simultaneous Article IV review predicting 2% growth through next year on “lackluster” public and private investment. Despite the Conservative party government’s economic reform agenda, demographic and productivity trends are “adverse” with structural unemployment keeping the formal rate above 15%. Bank balance sheets a decade after the crisis and a series of EU-guided rescues have near 50% bad loan ratios, as net credit provision falls. Fiscal relaxation and foreign capital inflows offer short-term impetus, but privatization and labor market changes lag and imperil long-range debt sustainability despite official breaks. Recovery is “disappointing” with income levels below the euro adoption era, although consumption and tourism are up with inflation less than 1%. The current account deficit is 3.5% of GDP under estimated 10% currency overvaluation, while the primary budget surplus exceeds the 3% target. After bilateral debt relief, sovereign bond issuance at record low 150 basis point spreads has been oversubscribed, and banks repaid emergency liquidity assistance with nonperforming assets only half provisioned. Germany and the UK are the biggest trading partners and face slowdowns and Brexit shocks reinforcing the odds for 2-3% best case medium-term growth. The new administration pledges personal and corporate tax reductions that may halve the primary balance, and pension spending must still be curbed as actuarial and solvency studies are conducted.  Worker retraining should accompany the double-digit minimum wage rise, and bank cleanup awaits new out of court restructuring options and a proposed centrally-guaranteed securitization scheme to tackle euro 80 billion in distressed assets. The legacy state lenders in turn must improve governance and profitability to be internationally-competitive. Business licensing will be streamlined further despite better World Bank rankings, and data transparency remains a serious issue with the sad saga of a prosecuted former IMF statistician lingering, the report implies.

Jamaica’s Festive Fund Graduation Jam

2020 January 2 by

Jamaica was a top MSCI Frontier index performer with an over 20% gain after the IMF lauded “exemplary commitment” upon completion of a 3-year $1 billion precautionary facility. The balance of payments backup was untapped with tighter fiscal policy on track to meet the medium-term 60% of GDP public debt target, on low unemployment and inflation, and stronger reserves and central bank oversight. After two consecutive programs spanning six years financial institutions are in better shape, with strides to modernize currency and capital markets and natural disaster risk management. However growth is under 1% with drought and mining company factory renovation, with youth unemployment still at 20% despite new outsourcing, construction and tourism jobs. One-fifth of the population is in poverty, as 4% inflation within the planned range has allowed interest rate and cash reserve cuts. Foreign exchange auctions soon to operate through a dedicated electronic platform reduced local dollar pressure, within a modest 2% current account deficit. Oil import prices remain under control, but weather swings, high crime and plant capacity constraints continue to inject uncertainty. In October S&P raised the sovereign rating to “B” after a successful $1 billion bond liability management operation. Bank lending rates are under 15%, with credit growth at double that pace geared toward mortgages and consumption as the bad portion is just 2.5%. International trade and goods and services taxes support a 5% primary budget surplus, and a fiscal council is in formation. Fuel subsidies and civil service compensation require further overhaul, and state oil refinery loss and exchange rate coverage should be phased out, according to the Fund’s final report. Better household data will help assess system risk for both the central bank and financial services commission as they work on a joint resolution regime and inclusion approaches for poor and rural customers. In the post-program phase supply-side reforms including on land registration, factoring and leasing should be a priority and multi-currency practice can be extended temporarily toward eventual end. Unmet formal and informal small business credit access is estimated at 20% of GDP, and agricultural productivity lags while drug and gang violence run rampant, the review cautions on the unfinished agenda.

Barbados too earned praise under its extended Fund facility in a November visit, with foreign reserves roughly tripling the past year to $600 million. Following domestic debt restructuring in 2018, external bondholders agreed to a 25% interest and principal haircut in October under an exchange instrument with a natural disaster clause. Over the next decade, the debt-GDP ratio should fall to 80% with a raft of additional taxes and reduced state enterprise borrowing. A new law will reinforce central bank independence, and limit currency peg intervention to smoothing only. Regulatory relief is under a strict deadline for banks and non-banks to replenish capital, as credit reporting standards are revamped. With the primary surplus exceeding expectations, another $50 million installment should be available in December. Trinidad and Tobago with a 10% decline on the MSCI frontier benchmark has been an exception to the positive mood as hydrocarbon prices correct, and Venezuelan refugees continue to arrive by boat with no asylum procedures in place to provide durable education and employment solutions.

MENA’s Capricious Capital Flow Flare

2019 December 26 by

The IMF’s Middle East and Central Asia October economic snapshot highlighted changing capital flow patterns from direct to portfolio inflows in recent years, with pronounced global financial market sensitivity regardless of oil prices. Five countries—Lebanon, Morocco, Pakistan, Qatar and Saudi Arabia—took two thirds of cross-border securities allocation and bank lending, and one-third went for sovereign borrowing mainly to close fiscal deficits. From 2016-18 the broad region accounted for 20% of the emerging market total, quadrupling its share over a decade. Oil exporters have dominated Eurobond issuance with $75 billion from last year through the first half of 2019, while bank flows are above other geography averages despite severed correspondent relationships in Iran and Yemen. For oil importers, current account gap financing is a major driver, despite outstanding foreign investor access and ownership limits as competitive disadvantages. Inflexible exchange rates can also heighten volatility, and the lack of local institutional bases for liquidity and size, and weak corporate and government transparency, can spur large crisis outflows according to a Fund “push-pull” model. Its research also found relative “decoupling” from geopolitical tension despite a spike in a “social unrest index” of protest and strike media coverage.

OPEC has been unable to control this year per barrel oil value fluctuations between $55-75, as hydrocarbon exporter growth is forecast at 1.5%, although the pace should double in 2020. Reduced productivity and FDI dampen output and the Gulf will expand less than 1%, with Kuwait, the UAE, and Qatar looking to sporting and tourism events for boosts. Iran is in “steep recession” and will contract almost 10% under pervasive US sanctions. Algeria, Iraq and Libya are in conflict, and regional non-oil growth is lackluster with narrow private sectors. Commercial banks are adjusting to real estate declines, as state-owned system restructuring is long overdue. Bahrain and Oman have thin fiscal cushions and may need neighbor support, while civil servant wage bills and subsidies are too generous everywhere. Consumption and value-added taxes should be introduced, and procurement processes overhauled. Structural reforms and securities market modernization in particular, could lift GDP half a point annually, with partial sale of designated “strategic” enterprises an untapped revenue and efficiency source. A headline transaction is the 5% IPO of Saudi Aramco listed on the local stock exchange as a 600-page prospectus attempts to lure foreign investors with flush dividend and earnings projections.

Oil importers can expect “tepid” recovery with 3.5% average real growth, on inflation “at bay” outside Egypt, Pakistan, Sudan and Tunisia. Despite solid inward remittances, current account deficits and external debt will together be $250 billion, or 150% of reserves. Lebanon is currently in political and financial crisis against this backdrop, as the pegged exchange rate and bank rollover of state debt through complex “engineering” may be exhausted. Primary fiscal balances are negative across the board, and off-balance sheet liabilities are often untracked. Jordan and Tunisia have large refugee populations with international aid only partially offsetting budget costs. Like Egypt they are under traditional IMF programs to stabilize fundamentals and foster “inclusive” economies with a mixed track record. Egypt’s reserves were replenished and the fiscal deficit cut from double digits, but the 700,000 annual job creation goal remains elusive as a successor arrangement is also pending.

Bank Risk Management’s Super Stress Tests

2019 December 20 by

The tenth annual Ernst & Young/ Institute for International Finance global bank risk management survey, polling 95 institutions in over 40 countries, praised financial strength the past five years in meeting regulatory capital and liquidity ratios while underscoring future gaps from unrelated geopolitical, cyber and other challenges. Since the crisis a decade ago banks have slashed short-term funding, deleveraged balance sheets and divested non-core assets. Accounting changes promoted higher disclosure and “countercyclical” buffer building. Executives increasingly focus on anti-crime and money laundering compliance in prudential norms as they prepare for tougher economic times ahead, with a view also to charting digital and artificial intelligence strategies for new products and customer protection. Climate change is already an overarching theme that affects business lines and physical operations, and will likely usher in additional human and natural resource complications. As line officers try to create a multi-dimensional framework for non-financial risks, boards traditionally focused on audit and governance must in turn develop better understanding and tools or plans will be partial and incapable of execution, the report warns. Trade and military conflicts encompass all regions, as Europe copes with the aftermath of sovereign debt crisis and Brexit. Basel standards apply universally, but are implemented at different levels and timetables, and across a broad automation and technology range.

Unlike 2008, the world is now “de-globalized” with political populism and investment and immigration restrictions, as interest rates dipped further into unprecedented negative readings. Analysts no longer believe standard output, unemployment and sentiment indicators can forecast trouble as they experiment with real-time data collection and machine modeling. Privacy has become an overriding issue with big computer hacks, and Europe’s strict access and sharing guidelines could soon be adopted elsewhere. Cyber-security has become an industry-wide task where preserving critical information and infrastructure also presumes public sector collaboration. The review argues that banks are still “catching up” to severe attack potential and may be misreading defensive performance. Data transitions from in-house and vendor servers and platforms to the cloud are “inevitable,” but backups should also be determined. A consensus holds that political power globally is shifting from West to East and that domestic uncertainty is rising with new parties and foreign influence techniques, and monitoring is not just a policy but a profit and loss responsibility.

 Environmental sustainability looms as a credit, client and societal concern leading to the recent promulgation of UN banking principles, as regulators form their own “green” disclosure and conduct approaches. The IMF’s Financial Stability Board has a task force for this purpose, and central banks have forged separate formal and informal networks. In the next five years products and services likely will move from sale/own to subscription/rent models, replicating the pattern in other industries including retail and entertainment. Half the respondents came from emerging market geographies where economic slowdown and trade war dangers have abated the past month, sparking an MSCI equity rally with both the main and frontier tiers up 7%. China and Russia with 30% gains top the pack, even as their banking links with Western counterparts are at commercial and diplomatic odds for another layer of supercharged risk.

Tunisia’s Overdue Aid Revolution

2019 December 13 by

Since instigating the Arab Spring in 2011, Tunisia has been held up by the international community, which plowed in billions of dollars in aid under standard bilateral and multilateral programs, as a rare political model of competitive democratic elections even though economically it has been stuck in a lost decade of stagflation. That disconnect helped explain the runaway 70% victory of a total outsider, retired professor Kais Saied in the October presidential election after his predecessor died in office. He had no party and limited campaign appearances, and his vague platform called for Tunis to devolve more power to localities and later for a popular shift “from frustration to work” in the inaugural speech. Voters rejected a business executive as savior as opponent Nabil Karoui spent time in jail on corruption and money-laundering charges and could not expand his personality-driven movement beyond parliamentary seat gains.

 The legislative polls around the same time, with ministries and state largesse to be handed out, will more decisively drive the economic and financial system agenda, but the Islamic-leaning coalition Ennahda did not win a majority as the main secular rival Nidaa Tounes was shellacked. Negotiations on a working government arrangement could be prolonged and a recipe for gridlock, as another International Monetary Fund adjustment program disappoints and public debt exceeds 70% of gross domestic product. After attempting coordinated “Marshall Plans” targeting fiscal and banking overhaul and corporate and official governance in the early post-Arab Spring period, the US, EU and Asia have slashed commitments and gone their separate ways. With Tunisia supplying ISIS fighters and facing its own terrorist challenge after bloody tourist attacks, money and focus were diverted to security issues. No new initiatives will accompany the latest election round, as opinion surveys show longing for the last decade’s dictatorship when growth was double and unemployment half current trends. In the vacuum the global business and financial communities can step up, and offer to act as standing advisers to help avoid looming crisis and pave the way for mainstream emerging market entry.

The IMF predicts 1.5% growth this year, half the original forecast, and 2.5% in 2020 on estimated 30% youth unemployment. The second quarter showed a broad-based output drop across agriculture, construction, textiles, and mining despite tourism recovery. Inflation is almost 7% and the benchmark interest rate is 1% above that level. The budget deficit is due to come in at the lowest since 2011 at 3.5% of GDP, with debt-servicing one-fifth and the public sector and enterprise payroll 40% of the budget. The government took out a $3 billion Fund loan in 2016, with another $500 million disbursement scheduled soon. The powerful labor union federation extracted wage increases from its leverage over the political process and continues to lead widespread strikes. Its hiring demands and sit-downs have brought the state-owned phosphates producer in Gafsa, accounting for 10% of exports, to the brink of collapse. The group fights partial privatization on ideological grounds dating from the post-independence era from France, despite desperate plant modernization and fiscal revenue needs.

International financial institutions have long criticized the inefficient and unproductive official sector and thin private competitive and capital base, as first half debt principal repayment jumped 50% to $1.2 billion, according to the Finance Ministry. Poverty is stuck at 15% despite higher social spending, and $1 billion will be borrowed domestically and $3 billion externally next year, including another planned $750 million-plus Eurobond after one in July at a 6.5% yield. On the brighter side the currency stabilized against the dollar and euro heading into elections, and foreign direct investment rose 15% to $400 million in the first half as the government promotion agency unveiled a digital platform. In contrast portfolio inflows were down one-third as Tunisia’s MSCI index frontier stock market component was slightly negative through September.

Stock exchange capitalization is a paltry 20% of GDP versus 70% in neighboring Morocco, and former Finance Minister Jaloul Ayed is among critics of the lack of capital market deepening and reform, including development of secondary Treasury bond trading. Officials came to  Washington several years ago under a regular US-Tunisia Economic Council meeting intending to tap global banks and fund managers for long overdue internal modernization and cross-border integration, but the agenda was overwhelmed by State Department counterterrorism concerns, and gatherings have since been shelved. In additional financial sector areas, from bank privatization to anti-money laundering after the country was recently removed from an international watch list, reimagined assistance can again lift revolutionary spirits and tangibly raise trust in improved living standards. According to studies only 30% of the population still believes in that promise, and market progress after years of neglect could boost investor and citizen confidence.  

Sovereign Debt’s Unprincipled Practice Path

2019 December 6 by

The IIF’s annual report on its 15-year old voluntary market-based sovereign debt restructuring principles and related investor relations practices offered mixed sustainability and transparency views. It noted that emerging debt is over one-quarter of the $250 trillion global total, above 300% of GDP, and that half the frontier country amount is in foreign currency with associated refinancing risk. Excluding China, non-resident capital inflows will rise $75 billion to $700 billion this year on yield search despite trade battles, as interest expense increases as a budget item at the same time climate change costs are absorbed. The report finds that good policies and communication over the past decade since crisis have bolstered confidence, as it probes recent defaults in Barbados, Congo, and Mozambique to draw cautions. It focuses on the 35 recipients of official debt relief under a program coinciding with principles launch, with private investors now holding one-fifth of public external obligations. Non-Paris Club bilateral creditors and episodes of “unreported debt” are now prominent. Zambia may soon fall into the hidden and restructured category, and Gambia is a special case where overlapping lines from “plurilateral” providers must be resolved.

Mozambique’s Eurobond exchange offer is due end-October with a collective action clause to reach near unanimous participation, following years of fitful dialogue with discovery of unauthorized loans and IMF program suspension. The former finance minister and Swiss and Russian bank executives are under indictment in the US for corruption and bribery, and the country’s constitutional court struck down previous government guarantees on tuna company debt. The new bond yields are half the former 10% until 2023 when they again revert, with maturities stretching past 2030. An engagement provision reflecting the London-based International Capital Markets Association model was added, and the Fund disbursed an emergency $120 million credit in cyclones’ wake. However debt/GDP is above 100% despite two-thirds at concessional rates, evoking the prospect of near-term renegotiation. The Congo Republic rescheduled with Chinese sources, including unaccounted for construction facilities with the Public Works Ministry. Over $350 million was cancelled, and the IMF approved a $450 million arrangement in July with $900 million in commercial and official arrears still outstanding. Two big oil trading firm are in “good faith “talks with the amount due approaching China’s 20% of GDP and complex pre-financing structures delaying resolution.

Barbados reorganized domestic debt at 80% of the load last year, and proposed large haircuts and maturity extensions international bondholders initially rejected. It received a fresh package of bilateral and multilateral loans after finding pension liabilities hiking the GDP ratio to 150%. Central bank claims were excluded from the local workout, which paved the way for a $300 million Fund deal. The IIF also looked at Puerto Rico, Venezuela and Argentina, with Caracas not paying an October state oil company installment but the Trump administration’s sanctions preventing Citgo asset seizure pending possible internationally-recognized Guiado government takeover. In investor relations norms Ecuador, Egypt, Ghana and Lebanon improved 5+ points in the 40-country scorecard, but Brazil, Mexico and South Africa as seasoned and sophisticated issuers continued to lead on office, website, and data availability best practice.

Africa’s Sequenced Securities Screens

2019 November 29 by

Despite a near 5% loss on the Morgan Stanley Capital International Frontier Africa Index through the third quarter, with Kenya (+15%) and Nigeria (-22%) at opposite ends, and the International Monetary Fund evoking sovereign debt unsustainability in its annual meetings financial stability publication, a separate measure of stock market progress in twenty countries averages above 50 for positive direction for the first time. The third year of the tally, compiled by pan-African banking giant Absa in collaboration with the London-based Official Monetary and Financial Institutions Forum (OMFIF), covers a half dozen categories including securities market depth and diversity, macroeconomic trends and foreign exchange access, and  legal/regulatory and institutional investor status. The Africa Financial Markets Index (AFMI) draws from desk analysis and interviews with executives and officials across and outside the continent. In Washington World Bank International Finance Corporation experts were consulted, and aggregate scores ranged from 88 for sophisticated South Africa where Absa is headquartered, to 27 for startup Ethiopia which plans stock exchange launch next year.

The IMF’s Global Financial Stability report landed with a thud at the annual gathering, as it termed one-third of emerging market debt “overvalued” in contrast with more fairly priced equities. External high-yield sovereigns were frothiest, while state-owned companies that are half that asset class are a “growing concern,” it noted. Half of countries with “B” or lower ratings, mainly low-income economies in Africa and elsewhere with bonds outstanding tripling to $200 billion the past five years, are at risk of sudden spread widening or access cutoff. Commercial debt equals 7% of gross domestic product and half of foreign reserves, with heavy medium-term servicing loads.  Chinese creditors not following standard restructuring rules hold a large portion, and commodity linkage can result in physical asset seizure in default. Record-keeping and reporting and an overall strategy are often absent, as the Fund has started to work with private industry bodies like the Institute for International Finance to promote better frontier market hard currency borrowing transparency and capacity.

The latest AFMI update underscores South Africa’s dominance in market liquidity and size, with the Johannesburg exchange capitalization triple GDP, but a half dozen neighbors including Ghana, Kenya and Nigeria are above 50 with new bond listings. However local yield curves and secondary trading have been slow to develop, with easy Eurobond resort and separate systems like the UEMOA Francophone West Africa zone’s auction platform. Primary dealers exist in most places but are inactive, and Kenya has an interest rate cap and Ghana may introduce an international ownership one for domestic debt. Small firm offerings are rare and further stunted by meager venture capital and private equity scope. Exchange consolidation has also been gradual, with Cameroon just recently merging with the regional Central Africa bourse and Anglophone West African countries still exploring joint frameworks.

Combined foreign exchange reserves were flat at around $250 billion, with Angola and Zambia running low. South Africa’s interbank currency turnover was $1.7 trillion in 2018, dwarfing second-tier Egypt and Mauritius in the $10 billion range. Pegged regimes remain in Cote d’Ivoire and Botswana, and managed floats in Angola, Egypt, Morocco and Rwanda feature regular central bank intervention. The best performing area was regulation and tax with a median 67 result for the majority due to clear tax codes and bilateral treaties, and equal treatment of capital gains and interest income. In 17 of the 20 economies international financial reporting standards apply, although the accountant and auditor pool is limited. Inaugural corporate credit ratings were assigned to issuers in Cameroon, Senegal and Uganda, and most countries use modern Basel III prudential norms for core banks. The institutional investor foundation is narrow, with half the list at less than $100 per capita in pension fund assets. Mauritius and the Seychelles are among the exceptions with thousands of dollars for each citizen, but government bonds are typically the chief compulsory allocation across the universe with Namibia an outlier on half the portfolio in equities. Funds are also confined to the domestic market, but infrastructure needs and technology are expanding the pension sector. Nigeria recently enacted reforms for managers to invest directly in power and transport projects, and mobile money inclusion strategies now target poor and rural populations with retirement schemes even as underlying financial markets are in their infancy, according to the survey.  

Global Financial Stability’s Stretched Credulity

2019 November 22 by

The IMF’s October Global Financial Stability publication tracked the relentless government bond negative yield total, now $15 trillion or one-third of the industrial world stock, as interest rate decline also classifies the same portion of emerging market issuers as “overvalued.” It believes equities in contrast are closer to fairly priced, with risk appetite there under trade and economic growth pinches. Excluding China with marginal tightening monetary conditions are easier across the universe and sovereign placement from frontier countries picked up the past six months. Banking systems at high vulnerability include Brazil, India, Korea and Turkey and small and midsize Chinese lenders had funding squeezes requiring rescues. Non-banks in 80% of major financial sectors are under scrutiny, equal to the crisis peak a decade ago, as insurers like Taiwan life firms and institutional investors increase speculative positions. Corporations and households are also overleveraged, the latter particular in Asia as central banks have imposed macro-prudential consumer and mortgage exposure curbs. Developing country debt sustainability is again an issue particularly for low-income borrowers, as global policy coordination may have slackened in recent years with urgency over tackling new ESG challenges, the review points out. External high-yield names are more mispriced than investment-grade counterparts, with half in the B or lower rated category subject to sudden spread widening or access cutoff with global stress. State-owned enterprises, which are half the corporate asset class and one-third the EMBI benchmark, are a “growing concern” with falling profitability and steeper leverage among hydrocarbon producers especially. Their credit ratings have slipped and few have an explicit guarantee for otherwise contingent liabilities. Trouble or default would likely spill over into the sovereign and fallen angels dropping to speculative grade have a narrower investor base.

 Hard currency frontier activity is on track for an annual record and the amount outstanding has tripled the past five years to $200 billion. For the average issuer this debt is 7% of GDP or half of reserves, and over the medium term servicing will spike. Commercial financing engagement has joined with the official shift to non-Paris Club creditor dominance, where China’s restructuring approach differs from Western norms. Commodity-linked loans can backfire with collateral seizure, and record-keeping and reporting is often slipshod in poorer economies. The IMF and IIF are promoting transparency and capacity-building initiatives along these lines, and policymaker should develop local capital markets as a backstop and avoid unproductive obligations in the first place, the report advises. In cross-border banking generally dollar shortages are widespread and likely contributed to reduced emerging market lines the last quarters. Additional bilateral swap facilities with the US Federal Reserve could help alleviate the crunch, after Brazil and Mexico were recipients during the 2008 financial crisis. Sustainable portfolio investment is a burgeoning field with asset size estimated in the trillions to tens of trillions of dollars, despite the lack of accepted definitions or outperformance over conventional allocation. In fixed income the style is most advanced, with green and social bond alternatives. Equities have both negative and positive screening for ESG criteria, and ratings agencies and the IMF in its surveillance are formally incorporating them. China as a leading sponsor is pushing at the same time for international adoption of its green bond rules, as a broader G-20 consensus is still budding.