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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.   

The BIS’s Currency Turnover Toss

2019 October 19 by

Posted in: Currency Markets   

The Bank for International Settlements released preliminary triennial foreign exchange and over the counter derivative survey figures as of April continuing decades of tracking these trends for central bank reference. The G20 endorses this data collection from over 50 countries and one thousand banks and dealers, with trades reported in unconsolidated form. Daily currency turnover averaged $6.5 trillion compared with $5 trillion in 2016, with the dollar on one side of almost 90% of transactions, followed by the euro (30%) and yen (15%). Emerging market share rose 4% to one-quarter the total, although the Yuan portion stayed in eighth place overall tied with the Swiss franc. Spot fell to 30% and swaps picked up to almost half, with non-deliverable forwards (NDFs) also increasing. “Other financial institution” engagement with counterparties like hedge funds was over half of volume, and sales desks in the US, UK, Hong Kong, Singapore and Japan took 75% of operation. Japanese retail traders hiked bets on high-yield developing units including the Brazilian real, Turkish lira and South African rand, while the pound, Australian and Canadian dollars combined also came to one-quarter the global sum. Yuan trading was $285 billion on a 95% dollar pair, with the Korean won, Indian rupee, and Mexican peso ascending the ranks at $100 billion plus. FX swaps were over $3 trillion and mostly in less than one week maturities, with forwards at medium term up to three months. NDFs drove the latter uptick, concentrated in Brazil, Korea and India markets. Prime broker handling was $1.5 trillion/day, with traditional institutional investor lines down. Asian financial centers had 20% of the business, with mainland China processing almost $150 billion as the number eight biggest location. Cross-border versions fell from two-thirds to half the amount, the lowest level this century.

Interest rate derivatives more than doubled to $6.5 trillion from $2.7 trillion on increased hedging and positioning, mostly in short-term contracts. Forward and swap agreements accounted for 60%, and dollar and euro-denominated activity were respectively half and a quarter of the total. The Yuan and won together were 1%, and Hong Kong had 5% of the overall market. So-called back to back and compression trades were main contributors, with the latter designed to keep net exposure constant. Swaps were again the leading category generally at two-thirds the amount, and the Mexican peso portion was roughly equal at 0.5%. Eastern Europe interest quadrupled to $20 billion, and the Russian ruble came in over $1 billion daily. The UK intermediated half of derivatives, with Europe’s other hub France, only at 1.5%, around the same level as Australia, Canada and Japan. Hong Kong benefited from Australia dollar contracts, and Singapore’s control dipped slightly to 1.5%. China, Korea, India and South Africa had 0.1-0.2% claims, reflecting offshore EM preference, the BIS noted. The final calculations will be presented in December amid clamor over undue dollar strength and dominance in trade and capital flows, as developing currencies and financial markets underperform and face US government competitive and geopolitical maneuvers. The next Triennial report is also widely expected to track Bitcoin and its peers as coverage turns over to new technology.

Europe’s Capital Markets Marriage Altar

2019 October 13 by

Posted in: Europe   

With Brexit and a new central bank chief hogging the EU agenda, the financial services industry has revived the call for capital markets union set out in recent blueprints to strengthen the existing commercial and supervisory foundations and competiveness versus developed and emerging world rivals. An IMF paper notes that regional households and companies overwhelmingly rely on banks, and that relatively small national size may cost an extra 250 basis points for debt. Integration has been a goal since single market launch decades ago with alignment lacking on transparency, regulatory and insolvency practices. The survey shows “no roadblocks” or “grand bargain” need for immediate progress on cross-border private risk sharing to promote growth and absorb economic shocks. Euro area bank assets are 300% and corporate bonds 85% of GDP, but securities are less than 70% in Central Europe and the Baltics. Home bias takes half of equity allocation, and the half trillion euros investment fund industry is the main institutional and retail segment under the UCITS directive, followed by insurers and private pensions.  Hedge and private equity funds are half the US total, and derivatives through London with the associated clearing houses will likely shrink in the near term with Brexit undermining liquidity and trading. Startups are particularly unable to find funding, and the lack of portfolio diversification hurts consumption and income. The IMF polled officials and executives and charted wide variation in offering, accounting and tax treatment. Bankruptcy frameworks are separately tracked with the World Bank’s Doing Business data base across a broad range, and outside the evolving “single rulebook” the new European Securities Authority (ESMA) will enforce and monitor. However its powers are “limited” in terms of mandates and fines, the document remarks.

The 2015 action plan focused on innovation, infrastructure investment, and administrative alignment and was updated in 2017 to enable issuance of common prospectus, securitization and venture capital rules. On prudential oversight the European Parliament approved a risk-based formula this year for firms with assets over Euro 30 billion, and an area-wide personal pension model is under development. Another proposed standard will cover corporate insolvency and a consumer protection one is under consideration. The IMF recommends a central reporting system and data base as with EDGAR in the US, and faster withholding tax refund on-line. Oversight should be “proportional” and apply to critical structures like clearing houses and the largest bank-connected houses. ESMA could use independent board members and forge cooperation pacts with global counterparts in its initial stages, and debt enforcement standards are an immediate priority in view of big disparities. Capital market and banking unions should be in “healthy competition” as Europe moves away from traditional relationship-driven sourcing. The push came amid a mixed MSCI Index showing from members through August, with Greece the only positive core constituent on a 20% jump, while the Czech Republic, Hungary and Poland fell 5-10%. On the frontier Romania was up 20% and Estonia off 5%, as the Baltics grapples with pervasive money-laundering scandals carrying financial institution penalties and demanding future integrity and solidarity on the issue

Venezuela’s Circuitous Sanctions Cycle

2019 October 13 by

Posted in: Latin America/Caribbean   

Following Venezuela’s removal from benchmark bond indices after US sanctions as rival international coalitions line up to remove and support the Maduro government, investors stuck with exposure have joined Latin American researchers in questioning the endgame of commercial pariah status. The Lima Group and EU also imposed curbs, as Cuba, China and Russia continue to support Caracas as well as opposition talks with National Assembly head Guiado forty countries recognize as the accepted President. Washington’s crackdown began in the Obama Administration with top official asset and visa confiscation, and President Trump added hundreds of individuals and companies and entire sectors before a recent blanket ban. The specific order against state oil monopoly PDVSA went into effect in June as creditors scramble to lay claim to Citgo and other holdings to collect overdue payment. The central bank is on the list as well as Russian banks involved in the petroleum industry, and all US dollar and crypto-currency transactions are taboo. Sanctions are not to blame for the economic, social and humanitarian catastrophe, as hyperinflation, hunger and mass exodus preceded the ramp-up, according to a September Center for Strategic and International Studies note. Oil production accounting for almost all export revenue fell millions of barrels, and a two-decade record of socialist mismanagement and corruption provoked widespread output and institutional collapse. Even when cash was available to import food and medicine, the regime and military tightly controlled distribution, and they never allowed free and fair elections in independent observers’ view. An oil-for-food program as the UN coordinated during the Saddam era in Iraq would require unlikely external access and oversight, amid evidence staple subsidies routinely exclude political enemies. Direct aid through churches and community centers outside government interference is unrealistic and unwieldy, even as citizens demand help though additional channels.

CSIS cites a financial and diplomatic vise on Maduro’s inner circle, but calls for a greater chokehold on criminal enterprise including drug dealing and money laundering. It recommends repurposing of internationally-garnered assets for humanitarian needs, as an estimated 4 million refugees are spread throughout the Andean region. It remarks that Chevron still operates in the country lacking a clear framework, and US banks should identify sound untainted counterparts for future transition. Sanctions have not succeeded in restoring democracy or hastening incumbent exit, and both objectives await a separate design from the expanded global community. Russia’s behavior in Ukraine has not changed from the version there, as the civil war in the east leaves tens of thousands displaced and killed. Washington may soon outlaw bond-buying, as the foreign investor share of ruble issuance stands at one-fifth the total. The fiscal and current account outlooks have worsened for 2020, as regular Moscow demonstrations mobilize anti-Putin sentiment. Overtures toward the new President in Kiev may bring a thaw such as prisoner exchange, but his focus is on restoring the IMF program to bolster the currency and reserves. With legislative curbs on Russian paper US fixed income investors could diversify into domestic 15% yields with the Fund’s sanctioned approval of budget and energy sector reforms.