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Sovereign Debt’s Unprincipled Practice Path

2019 December 6 by

Posted in: General Emerging Markets   

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

Posted in: Africa   

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

Posted in: General Emerging Markets   

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.

The Asia Subcontinent’s Subpar Sweep

2019 November 15 by

Posted in: Asia   

Pakistan on the main Morgan Stanley Capital International Index with a 15% loss and Bangladesh and Sri Lanka, down 5% on the frontier rung, were at the bottom of regional ranks through the third quarter.  Foreign investors shunned bonds as well on uncertain standing with the International Monetary Fund, and political and geopolitical complications. Subcontinent giant India struggling with financial sector crisis reinforced negative neighbor views likely to persist into year-end in the absence of economic policy breakthroughs.

The IMF’s September Article IV report on Bangladesh captured “downside risks” despite strong 7.5% gross domestic product growth predicted again this fiscal year. Private consumption, garment exports, worker remittances and infrastructure projects will be drivers, against the background of rising trade protectionism and natural and humanitarian disasters. Monsoon flooding and climate change erosion could lift food prices beyond the 5.5% inflation target, and the 700,000 Rohingya refugees from next door Myanmar remain in place with a $1 billion donor appeal subject to “fatigue” and fiscal fallout. Reserve money growth as of mid-year was double the 8% central bank goal, and it recently shifted course on lowering banks’ mandatory loan/deposit ratio to 83.5%. Higher electricity charges and value added tax could be inflationary, but disciplined monetary and fiscal policies, with the deficit to be kept under 5% of GDP, are official commitments. Tax collection at 10% of GDP lags behind peers, and without a broader base and exemption elimination revenue mobilization will also stymie progress toward the anti-poverty Sustainable Development Goals, the Fund warned.

Banking system cleanup is pressing with the stated bad loan ratio above 10%, and 30% for state-owned lenders. Under a wider definition stressed assets exceed one-fifth the total, despite a “growing trend” of rescheduling and restructuring. Due diligence and risk management are poor and “comprehensive reforms” are overdue to reverse regulatory leniency. Loan classification and corporate governance criteria should be stricter, and fraud and defaults require court action. The overall historical role of government-run intermediaries must meet a commercial test, especially as national savings certificates sold through them crowd out private capital markets.. As investors in this paper they also come under pressure to breach allocation limits to help relieve short-term budget squeezes, the Article IV commented.

Securities market weakness is in turn an obstacle to economic diversification beyond ready-made garments, as new businesses seek venture funding. South Asian stock exchanges trade at a discount to the region with single digit price-earnings ratios, but the Dhaka heavyweight Grameenphone is in a fight with the telecoms regulator over outstanding fees. Until a settlement and further bad loan purges at banks otherwise prominent among listings, possibly through a central disposal agency as in Vietnam, lethargy is the presumed near-term sentiment.

Sri Lanka’s second quarter GDP growth halved to 1.5% with the Easter terror bombings, but the PMI manufacturing gauge was again over 50 in August signaling recovery. The central bank cut the benchmark rate 50 basis points then on 3.5% inflation, and in October imposed loan cost caps on banks to ensure relief was transferred to borrowers. Investors have taken positions on private sector retail-oriented competitors most likely to benefit, and they could further rally after the November presidential election with the two party contenders are in a close race. The winner may offer additional fiscal and monetary stimulus after the IMF program allowed such temporary moves in the wake of the bloody attacks still denting tourism and consumer confidence. A silver lining in the latter is lower import demand set to narrow the current account gap to 2.5% of GDP.

Pakistan is a contrarian play as the Fund’s mid-September review called for “decisive implementation” of far reaching reforms never achieved under previous arrangements. The central bank is on hold, and fiscal retrenchment is to shrink the coming year’s deficit to 7% of GDP.  Growth is estimated in the 2-3% range, and inflation should fall to single digits. The 5%-plus current account hole has started to improve with the 30% real exchange rate depreciation the past two years, although foreign direct and portfolio investment have yet to rouse. The Kashmir confrontation with India has again raised the nuclear alarm, at a time when prospective share buyers prefer to monitor that reaction within the economic sphere.

Asian Stocks’ Staid Strictures

2019 November 8 by

Posted in: Asia   

Emerging Asia stock markets mirrored the almost 4% Morgan Stanley Capital International core index gain through September, and equaled Latin America and beat Europe performance, with China “A” shares up 28% the runaway leader. The main China component rose 5% and the Philippines, Taiwan and Thailand increased in the 5-10% range. India was barely positive (+1%) and Indonesia was fractionally negative, while Korea (-2%), Malaysia (-7.5%) and Pakistan (-17%) were losers. On the frontier rung, the regional advance was double at 9%, as big weighting Vietnam (+12%) offset 5% drops in Bangladesh and Sri Lanka.

 The Asian Development Bank noted that the first two of these members experienced double-digit export jumps with the US-China trade war, as it cut this year’s economic growth forecast to below 5.5% with underlying electronics cycle “sharp contraction.” The ADB expects weaker trade and investment into 2020, as the International Monetary Fund predicted a 1% global growth setback and new head Kristalina Georgieva pledged to tackle the slump to “minimize crisis risk.” Global fund trackers reinforced gloom with a $25 billion emerging market equity outflow total, as surveys pointed to Hong Kong’s and non-banks’ respective drags in China and India as asset class overhangs.

Chinese August data showed slack in industrial production, retail sales and fixed investment, with producer prices deeper into near 1% deflation. The Bank for International Settlements’ triennial foreign exchange study had the Yuan share of global trading unchanged at 4%. Formal foreign institutional investment quotas were lifted but remain one-third unused, with international reserves frozen at $3.1 trillion. Fitch Ratings projects gross domestic product growth below 6% next year, despite record total social financing from January-August over RMB 15 trillion. The central bank reported one-tenth of 4500 lenders at high distress risk comprising 5% of system value.

 Standard & Poor’s again sounded the alarm on local government debt, with almost RMB 4 trillion to be repaid by 2021. Dealogic, monitoring cross-border mergers and acquisitions, revealed that Chinese companies had already divested $40 billion in overseas assets through August, versus $32 billion for all of 2018. New home prices were up in only 55 of 70 cities, a six-month low, with widespread property developer layoffs. After one hundred days of protests, Moody’s downgraded Hong Kong’s outlook to negative as reserves fell $15 billion to $430 billion, the most in two decades.

Foreign direct investment for the year was $9 billion, a 3% rise, and the official manufacturing PMI gauge was under 50 in September. In the balance of payments the combined current and capital account surpluses were matched in the $130 billion “errors and omissions” outflow, signaling strong underground money flight. The private sector-oriented Beige Book described the third quarter as particularly hard for retail and services, as “shadow banking” like bond issuance registered a period peak as the chief funding channel. The Finance Ministry relaxed commercial bank bad loan provisioning requirements, as the central bank warned that regional players were “overstretched” and shareholders would face the consequences. Researcher FT/Wind estimated a capital shortage in most stock-exchange listed banks, as rumors circulated in Washington that the Trump Administration was considering US investor portfolio investor curbs as a negotiating lever.

Indian growth similarly disappointed in the April-June quarter at 5%, as ratings agencies cited “precipitous private consumption decline” that will not be overcome by a surprise 10% corporate income tax reduction. They argue structural reforms are still missing to improve competitiveness and business sentiment, and that the break will hike the fiscal deficit above target to 4% of GDP. Fitch puts the combined state and central government gap at 7% at year-end, even after the central bank was forced to transfer record reserves. It has been in easing mode with another recent 25 basis point move to just over 5% in the benchmark rate, but household confidence remains soft amid overlapping real estate and financial sector crises following the collapse of non-bank giant ILFS. According to local consultants stalled residential projects now total $65 billion, and analysts believe the banking system bad loan ratio is again heading toward 15% on damage from housing specialist ties. Listed Yes Bank was caught in the vortex, as share value was almost wiped out with its affirmation of a speculative shadow franchise under harsh investor glare.

US Development Finance’s China Finesse

2019 November 1 by

Posted in: General Emerging Markets   

The US International Development Finance Corporation (DFC), combining the overseas private investment arm OPIC and credit operations of the main development agency USAID, formally opened for business under an overarching aim to compete better with China’s multi-trillion dollar Belt and Road program. It has a higher $60 billion exposure cap and wider array of debt, equity and guarantee tools to spur direct and portfolio inflows into low and middle-income economies, and is also designed to promote national security migration and counter-terrorism priorities.

 According to a September Center for Strategic and International Studies (CSIS) report, the new entity will counter China’s “aggressive influence” funding infrastructure and natural resource projects throughout Asia, Africa and Latin America, even though it cannot match Beijing’s heft “dollar for dollar” though state enterprises and policy banks. Supporters believe the DFC’s comparative advantage can be in peer collaboration and technology transfer, and targeting small and mid-size companies and capital market creation where Beijing lags. However CSIS notes that even as Washington’s approach is reinforced to contrast with China’s “export-based politically-driven” model, early expectations should be modest. Annual financing will remain below $10 billion, and internal organization delays could combine with geographic, sector and structural confusion in the initial rollout.

 The launch coincides with the Trump Administration’s continuing efforts to slash foreign aid, with the first year budget request below $1 billion. OPIC during an almost 40 year life  had no net cost to the taxpayer as proceeds were returned to the Treasury, but this argument did not sway the proposed appropriation despite bipartisan consensus on modernizing the US financing apparatus and arsenal. Foreign policy officials weighed in that expanded job creation sources are needed to combat violent extremism in the Middle East and Africa, and curb mass emigration from Central America’s Northern Triangle, but immediate intelligence and security considerations drove allocation. The DFC starts with 300 staff and a 90-country portfolio, and a liability limit doubled from the previous $30 billion. It relaxed criteria for American company participation, formerly at one-quarter of equity, for more local investor scope. Along with the fifteen member board of directors from the cabinet and outside government, an independent advisory panel was set up drawing from think tanks and advocacy groups.

The DFC inherits a $23 billion portfolio about evenly split by region and 25% geared toward fragile states, with financial and power sector concentration. Direct loans were 70% of activity, followed by political risk insurance and investment fund stakes at 15% each. With additional powers it can take equity positions, offer technical assistance and local currency guarantees, and start venture capital enterprise funds. An immediate focus is women’s economic empowerment and it has signed agreements with the Inter-American Development Bank and World Bank to back Latin America and global business growth. In Africa the intent is to leverage the existing Power and Prosper Africa initiatives and work with the Millennium Challenge Corporation, which uses specific economic policy and performance criteria, on country-designed infrastructure frameworks and schemes.

The CSIS paper warns that contrary to hype the DFC is unlikely to double legacy commitments in the near term, as it undergoes teething pains and looks for openings to balance heightened risk and impact. Its role is to catalyze private financing where unavailable, but then to leave the scene with access, and otherwise to complement foreign aid for humanitarian and environmental purposes. The DFC should fit with USAID’s “Journey to Reliance” strategy for concessional assistance graduation, with local capital market development reprised from decades ago, during the post-communist transition, as a major theme. Low-income country engagement may have to be subsidized from high-earning assets, and the initial 7-year authorization should not be a deadline to rush internal and external preparations, especially to shift OPIC’s traditional demand-driven tendency, analysts believe. Functioning money and government bond markets may have to precede corporate debt and equity emphasis, and the Treasury Department has a dedicated technical expert program for support. The study calls for a new generation of enterprise funds in overlooked locations like Central America, currently reeling from poverty and safety threats in El Salvador, Guatemala and Honduras with emigration waves. With such innovation the ecosystem there could eventually evolve to gain admittance to the MSCI frontier equity index, with a 6% gain through the third quarter double the core roster’s.

The SDGs’ Bland Blend Recipe

2019 November 1 by

Posted in: General Emerging Markets   

The September UN General Assembly hosted further meetings and reports on financing the 2030 Sustainable Development Goals after a special summer session, with tepid reviews of public-private “blended” and bilateral and multilateral lender contributions. Official/commercial facilitator Convergence, founded after the 2015 Addis Ababa summit calling for partnerships, issued an annual update of transaction, investor and thematic trends. Its database covers $150 billion in funds and projects, at median $65 million size, concentrated regionally in Africa. Energy and financial services are the leading industries, with concessional debt or equity the main instrument. Goal focus is on Economic Growth (8) and Infrastructure (9), and commercial banks are more active than local and foreign institutional investors. Agriculture and health and low-income and small island states are drawing new interest, but volume is still only $15 billion/year, and only “scaling up” to close an estimated $2.5 trillion gap in the next decade will boost living standards as agreed. Bonds and notes have been used in just one-tenth of deals, and Asia is catching up with Africa with a 30% share, half in India. Latin America had more leverage at 5 times and an average $115 million commitment.

 Renewable energy is popular in that sector accounting for 40% of the total, and addresses the separate Climate Change goal (7). Financial industry priorities have shifted to capital markets and small business access from broader inclusion. Guarantees and risk insurance apply in one-third of cases, while technical assistance has fallen as a tool. Entrepreneurs are the chief target across traditional and social enterprise, micro-finance and family farms, and only 10% have reached completion stage with final evaluation. Public and philanthropic sources are respectively 40% and 15% of the total, with USAID and the World Bank among the top in their cohorts. The EU and Canada have announced new multi-billion dollar facilities, and big emerging markets like Indonesia and South Africa are also sponsors. Impact investors including Calvert and Blue Orchard have been stalwarts, and European and Japanese banks dominate the commercial ranks versus asset managers, insurers and pension funds with “limited” participation, Convergence finds. “Better blending” initiatives through the OECD and other bodies have gained momentum the past year, but different definitions and practices continue to thwart “billions to trillions” ambitions, it concludes.

A separate Center for Global Development paper criticizes the seventeen development lenders involved on a Blended Finance Task Force as “marginal, not transformational,” and points out that private investment cannot deliver the range of infrastructure, health and education demands with consumers earning a few dollars daily. A decade ago, the World Bank’s IFC arm pledged half of operations in the poorest countries, but its recent portfolio peak was 25% and has since slipped. Official institution guarantees, loans and equity back just half a percent of developing economy total allocation, and the catalytic leverage effect is less than 1:1 under strict methodology. Pilots like the African Development Bank’s Infrastructure Fund and USAID’s Power Africa show “little success” in terms of the bankable project pipeline, and few deals can be identified where subsidies ensure viability. The missing piece is marked expansion of traditional aid to meet another elusive goal as a portion of donor national income, CGD suggests.

Asia Bonds’ Serial Signal Clashes

2019 October 25 by

Posted in: Asia   

The Asian Development Bank’s quarterly local currency bond survey of mid-year and through end-August trends noted lower yields with slower economies, amid still positive “risk off” foreign investor sentiment raising future flags. The US-China trade standoff continued to loom over regional markets cutting interest rates in line with developed world central banks. The Japan-Korea diplomatic and export clash added to aversion, as equity markets also slid and currencies weakened against the dollar. Annualized growth was almost 15% in the latest period for combined size of the nine Emerging East Asian destinations over $15 trillion, three-quarters from mainland China, and close to another 15% from Korea. A Cambodian bank bond as the third such listing on the stock exchange was a highlight as broader Indochina coverage may soon join Vietnam in the publication.

In most places the 10-year government bond yield drop surpassed the 2-year, with curve flattening suggesting economic “gloom,” the ADB commented. Korea, Malaysia and Thailand reduced benchmark rates 25 basis points, and Indonesia got a sovereign ratings upgrade to slash cost. Hong Kong’s fall was less than the rest with “political uncertainties” from months of anti-Beijing street riots. The International Monetary Fund in its July outlook predicted 2.5% trade growth this year will be half the pace of 2017. Emerging market gross domestic product expansion will be just 4%, with inflation almost a point higher. Asia’s clip is a “rock solid” 5.7%, despite Hong Kong and Korea at half that figure. Vietnam was an exception to the stock market spin in part due to possible MSCI index elevation from the frontier to core rung in 2020.

 Credit default swap spreads “rose sharply” in July, even as overseas ownership of domestic bonds was “stable,” according to the report. However Malaysia and the Philippines had 1.5% declines, with net outflows in the former on oil export price softness and potential removal from an FTSE global bond index. A new World Bank policy paper points out that East Asia is ahead of other regions in developing capital markets for a state and corporate borrowing “spare tire” since the late 1990s financial crisis, although the private sector can be “crowded out” and small and midsize company access lags. The update warns that Chinese growth “moderation” is a bigger risk than US recession, while multiple trade conflicts rage. While the Federal Reserve reversed course toward lower interest rates, major emerging market upsets elsewhere, such as in Argentina and Turkey, can still readily translate into asset class selloffs, it added.

The government-corporate bond divide is 60%-40%, and overall growth was 3.5% in the second quarter, roughly the same increase as in mainland China. In contrast Hong Kong’s outstanding amount slipped slightly to $250 billion, while ASEAN’s combined was up 2% to $1.5 trillion. Thailand leads there at $425 billion, followed by Malaysia’s $350 billion and Indonesia’s $220 billion. In Malaysia 60% of volume is Islamic-style sukuk, and Singapore’s $320 billion market is also moving into this niche. The Philippines and Vietnam are minnows at $125 billion and $50 billion respectively, although Manila stands out with a retail investor program. As a fraction of regional GDP the total is near 85%, with Korea the outlier with a 125% proportion. The foreign investor share ranges from 5% in China to almost 40% in Indonesia, with net buying over the April-July timeframe.

 Cross-border Asian placement was $3.5 billion, with China names accounting for half. Bank of China had the single biggest $750 million issue in Hong Kong dollars, and denominations in Singapore dollars, Korean won and Malaysian ringgit were 5% of activity. Hard currency East Asia offerings climbed 20% from January-July to over $200 billion, 90% in the greenback. Indonesia was responsible for $12 billion; Thailand $1.5 billion; and Vietnam Prosperity Bank completed a $300 million bond. Cambodia’s Advanced Bank local listing had a 7.75% coupon above bank term deposits, with the proceeds going to more speculative rural business. It got a “B” Standard & Poor’s rating to facilitate institutional and individual sale, with over 20,000 investors now registered on the $150 million exchange. The small bourse is on the radar screen especially of Indochina specialists already in Vietnam, and eying fresh spots with the announced merger of the Hanoi and Ho Chi Minh markets, under the caveat that “rock solid” may also describe boulder dangers.

Central Asia’s Currency Steppe Changes

2019 October 25 by

Posted in: Asia   

Central Asian currencies entangled in Russian ruble and Chinese Yuan slides dipped to new lows against the dollar in August, as external bond investors took the signal to trim positions. The Kazakh tenge, Uzbek som and Tajik somoni fell 2-12% due to outsize Russian trade and remittance dependence. Kazakhstan is a member of the Moscow-led Eurasian Economic Union, and gets one-third of imports from its historic ally and neighbor. Tajik worker proceeds from there account for one-third of gross domestic product; for Uzbekistan the fraction is only 10%, but the central bank ended the foreign exchange fluctuation band during the month in another liberalization move drawing frontier market investor interest. China’s currency weakened amid the prolonged US tariff and technology restriction battle for additional sub-regional pressure, as foreign direct investment in natural resources and infrastructure gathers pace under the Belt and Road push.

In Kazakhstan, with new President Kasym-Zhomart Tokayev in office, panic buying prompted a documentation crackdown on customer and dealers as the tenge veered toward 400/dollar. It had stayed in a 375-385 range despite oil price weakness on presumed sovereign wealth fund intervention. Since the dollar peg’s collapse 5 years ago, a half dozen devaluations have hurt the population, which erupted in nationwide protest when snap elections were called in June. With double-digit unemployment and state banks still reeling from troubles originating a decade ago, a recent poll showed just 60% of citizens satisfied with living standards. To shake up the banking system the government intends to boost Islamic finance’s share, which now barely registers, to 3% over the medium term and may allow conventional lenders to open sharia-compliant arms. Next door Kyrgystan has a 5% goal, and Tajikistan and Uzbekistan are designing legal and regulatory frameworks with support from the Islamic Development Bank. According to Moody’s Ratings growth in this segment will strengthen and diversify funding sources, including from Asian hubs like Indonesia and Malaysia, but must link to existing deposit insurance and liquidity schemes to be competitive and sustainable.

Against the background of renewed currency jitters, Mongolia’s recent predicament of 25% depreciation and exhausted reserves before turning again to an International Monetary Fund rescue haunted portfolio managers, as bonds were dumped ahead of a heavy repayment schedule next year. Its August Article IV report predicts 5% plus growth over the next five years, but warns of the “narrow economic base” with mining 80% of exports and almost entirely destined for China. The OT copper project is half of foreign investment, with continued delays in coming fully on line. A $500 million swap line with a domestic bank and the bilateral Chinese central bank facility tapped for $1.8 billion expire in 2020, and large Eurobond amortizations start in 2021.The reserve position is projected to plateau then at $4 billion, but under a stress scenario could plummet to $1 billion as public debt hits 95% of GDP.

Years of double-digit household loan expansion have hurt bank capital and profitability and an asset quality review is not yet complete as the 2020 parliamentary election cycle approaches to further postpone action. Inflation is still high at 8%, amid chronic fiscal and current account deficits and worsening environmental damage to the key livestock industry. A budget rule was adopted but not enforced as the Development Bank runs up contingent liabilities, and retail borrowers circumvent macro-prudential debt service/income limits through resort to unregulated non-banks charging 40% interest, the review adds.

Investor qualms also touched hydrocarbon exporter Azerbaijan recovering from bank collapse and recession, despite selective appetite for its illiquid “exotic” bonds. The exchange rate is a de facto peg at 1.7 manat/dollar, after the SOFAZ sovereign wealth pool transferred billions of dollars in holdings for stabilization. Growth is expected at 2.5% and inflation 3.5% this year, as the fiscal stance moves from stimulus to consolidation, the IMF comments in a September Article IV survey. Monetary policy moved to inflation targeting, and structural reform strides are evident with a leap in the World Bank’s Doing Business rankings. However banking sector cleanup remains a work in progress after fraud and failure at leading state institution IBA, and corruption and transparency scores are poor. Local government bond development is also lacking until a durable shift in currency and capital markets confidence, the report cautions even high-risk speculative investors.  

China Bonds’ Zero Intolerance

2019 October 19 by

Posted in: Asia   

Global fixed income portfolio managers contending with a near $15 trillion universe of low and negative yielding developed world government bonds, with euro-denominated emerging market issues also in the fold, have hailed the entry of positive return Chinese local instruments into benchmark indices. Together inclusion in major Bloomberg, Financial Times and JP Morgan gauges will trigger estimated hundreds of billions of dollars in allocation to raise foreign investor ownership beyond the current 2% share, as compared with an average ten times greater for big developing markets in Asia and elsewhere.  In the region China accounts for three-quarters of the $13 trillion local bond total, as the number two market worldwide in nominal terms behind the US. Starting in February next year, it will get a full 10% individual weighting in JP Morgan’s GBI-EM gauge embedding Asian dominance there, just as in equities where  China’s “A” share addition boosts the already 30% portion on the core Morgan Stanley Capital International Index. This step caps a three-year opening process luring thousands of participants in domestic interbank bond dealing, as Beijing declares a path toward automatic foreign institutional access joining the emerging market mainstream. Its long-awaited arrival on the scene as a top-rated credit is an upbeat asset class story despite growth, trade and banking system concerns continuing into 2020.

Amid the anti-export tariff, currency and national security imbroglio with the US likely to last through next year’s presidential election, an expanded bond channel can support domestic demand through infrastructure projects, and reduce disproportionate bank reliance in total social financing. It will enable China’s global gross domestic product contribution to increase to 20% over time despite a probable shift to current account deficit status, and demographics-driven economic slowdown from decades of the one-child policy. Diversified financial intermediation can offset falling total factor productivity, with recent annual gains in the 1-2% range. However while overseas investors may be sanguine in the near term about the reported government debt level at 50% of GDP, they will insist that the 150% state enterprise load, due to leap another 10 trillion Yuan this year, be reined in for overall sustainability.

On the index launch mechanics, JP Morgan will incorporate a half dozen liquid government bonds, and projects an early $20 billion infusion with the 10% weighting since it is tracked by $200 billion in assets. The Finance Ministry puts the amount outstanding at $2 trillion on a defined yield curve, with 1-10 year maturities auctioned monthly. Banks and insurers are the main buyers with the former taking two-thirds of issuance, and secondary trading is minimal. Policy bank offerings from the Agricultural, Development and Export-Import Banks are also part of the sovereign mix but so far eligible only for Bloomberg’s separate yardstick. With integration Hong Kong’s Bond Connect scheme for onshore entry in effect since 2017 is expected to improve, especially in addressing remittance and settlement complications. The currency convertibility timetable, with a vague next decade target, could also be spelled out concretely to harness fresh inflows, in the wake of recent annual drops in Standard Chartered’s Renimbi Globalization measure. Trade settlement and international payments rankings have declined despite acceptance in the International Monetary Fund’s Special Drawing Right (SDR), and official no-devaluation assurances.

Chinese local corporate bond participation should pick up at the same time despite the absence of a dedicated index, as 80% of borrowing is still through banks and Standard &Poor’s has begun competitive credit ratings. Surveys of central bank reserve managers also reveal an appetite for higher safe asset exposure with only 2% of holdings Yuan-denominated, below the 10% stake in the SDR, amid the search for dollar and euro alternatives on commercial and geopolitical grounds. On an historical view, emerging market analysts predict a similar trajectory for local bonds as external ones the past decade, as half a trillion dollars in corporate issuance now leads as a stalwart in JP Morgan’s benchmark for that field. Offshore investors continue to snap up risky property developer placements this year, with double digit yields rarely available elsewhere. They may default and leave holders at the mercy of uncertain legal recourse, while Chinese central government paper is considered a solid bet for now on the basic balance sheet.