Is Sub-Saharan Africa a safer bet than the eurozone?

Jeremy Weltman
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In relative terms, Sub-Saharan Africa has the momentum over its more developed eurozone peers when it comes to repricing risk, a boon for African sovereign issuance in the coming months.

The markets appear to be pricing in a lower level of risk for sub-Saharan Africa (SSA) than ever before, with the yield on Zambia’s first 10-year sovereign debt issue yielding less than its Spanish equivalent, and with other SSA sovereigns enjoying tighter credit default swap (CDS) spreads than their eurozone counterparts.

However, Euromoney’s Country Risk Survey suggests economists are still questioning the relative merits of emerging frontiers in SSA, where countries have different characteristics, and where political and structural risks should not be ignored. Given the flurry of expected bond-market issues to follow in Zambia’s wake, this should make investors cautious.

Zambia’s inaugural 10-year sovereign bond issue, worth $750 million, caused more than the usual flutter within the markets this month when substantial market demand meant its initial yield of 5.625% came in below the 5.75% prevailing on 10-year Spanish debt.

Zambia is one of several SSA sovereigns during the past few years to have tapped the bond markets for financing, most of which tends to be used for large infrastructure projects – other countries, including Tanzania, Rwanda, Cameroon and Nigeria are expected to follow.

However, the high demand/low yield connected with the Zambian issue raises the question: are SSA sovereigns safer than parts of the eurozone? The question can perhaps be more fully answered with the help of Euromoney’s Country Risk Survey.

More than 400 economists and other experts from a range of financial and other institutions take part in Euromoney’s Country Risk Survey. They evaluate the risks faced by international investors in 186 markets worldwide, scoring countries not only for economic factors, but also a range of political and structural risk criteria.

The ECR survey combines these contributor assessments on 15 of the most important risk factors with other data regarding access to capital, credit ratings and debt, to formulate an overall score out of 100 (where 100 is the least risky and 0 the most). The survey has been undertaken since 1993 and is updated daily on a real-time basis, with scores collated and aggregated each quarter for comparison purposes.

Three main components of risk

If economic risk were the only factor to consider then, generally speaking, the SSA sovereign issuers would be considered more advantageous than their eurozone counterparts.

Cyprus might still lead the pack, perhaps, but the unending fiscal afflictions, deep recessions and currency uncertainties plaguing the eurozone mean that for most other member states, including Greece, Spain, Ireland, Portugal and Italy, their ECR economic assessment scores are lower than Africa’s trailblazers, where strong growth rates have been a prominent feature.

 Source: ECR

However, it’s not all about economic risk, something that ECR is often at pains to spell out. In spite of the political ructions caused by the eurozone crisis, Europe’s highly developed political institutions, its generally lower levels of corruption, high transparency, and its competitive and legally backed regulatory environments are still perceived to be stronger than in most parts of Africa.

Italy might be beaten by Namibia for political risk, but dysfunctional Greece – now a pariah within the eurozone – is the only truly poor performer, scoring less than five out of 10 on all six political risk factors and only 3.5 out of 10 for corruption.

Source: ECR 

On structural risks, too, all of the at-risk eurozone sovereigns – again with the exception of Greece – rank higher than any SSA sovereign. This is perhaps unsurprising, given their low income levels and other development deficiencies. The physical and communications infrastructure across Europe, social institutions and firmly entrenched industrial relations laws are still more advanced than in developing Africa.
Source: ECR 

Mixed picture according to CDS spreads

Are these subtle differences reflected in CDS spreads, measuring the cost of insuring against a sovereign default over five years? The evidence is mixed.

CDS spreads are a relatively new phenomenon for SSAs and where they are available, market trading (liquidity) is still thin. However, for countries where data does exist – in the case of South Africa and Ghana, for instance – CDS spreads are lower than for Italy or Spain, according to figures supplied by Markit, the financial information services company.

 Source: ECR

South Africa’s budget deficit, at around 5% of GDP, is narrowing, and its government debt is only around 40% of GDP, which is lower than Spain’s (at 70%, but far larger with the banks factored in) and Italy’s (120%). Ghana’s deficit and debt levels, on the other hand, are worse than South Africa’s, which its CDS spreads factor in.

Meanwhile, Nigeria’s CDS spreads – having just dropped below 400 basis points – are above Italy’s and Spain’s, but (and bearing in mind the liquidity issue) they are also below Portugal’s, which have climbed back up to 500bp lately.

Only Angola, floating around the 600bp mark, is priced higher than all of the eurozone comparators. Its fiscal surplus, estimated to be 10.2% of GDP in 2011 – though forecast to fall to around 1.7% by next year – clouds a large non-oil primary deficit (the narrow measure of spending less revenue, excluding debt interest payments) of 48% of non-oil GDP.

ECR scores enrich picture; coverage more comprehensive

ECR scores, calculated daily from the responses of country risk experts, tell a different story to the bond yield or CDS spread data.

Large falls in ECR scores and rankings have naturally occurred for a number of highly indebted eurozone sovereigns during the past few years (most prominently in the case of Greece), but virtually all of the at-risk single-currency participants – including Slovenia, Cyprus, Italy, Spain and even bailed-out Ireland (which has staged a return to the bond markets recently) – still rank higher than most of the SSA issuers.

Only South Africa – 51st on a score of 56.3 – and Botswana – 56th on a score of 55.3 – come close. South Africa is about to exchange places with Spain, while both countries rank higher than Portugal.

Source: ECR 

ECR’s survey is comprehensive, too, contrasting with the coverage of SSA sovereigns by Fitch, Moody’s and S&P, which remains patchy. No fewer than 46 SSA sovereigns are covered by ECR.

However, of the 11 listed in the tables (above and below) – those that have either issued dollar bonds or Eurobonds to date – nine are not fully covered by the three ratings agencies. And, as previously mentioned, CDS data is also thin.

Plus, where there is agency coverage, the risk assessments do not always coincide with the views of ECR experts, or they do not make the same distinctions. Note, for instance, that Ghana and Zambia are both rated B+ by Fitch, and Zambia, Nigeria and Senegal are all rated B+ by S&P, yet, as their ECR score differentials suggest, there are differences in economic, political or structural factors of note, which can affect the total score.

Source: ECR 

Zambia example shows not just about economic risk

The example of Zambia and Spain is a case in point. Zambia, a leading copper producer, has climbed 38 places in ECR’s global rankings since September 2007, but on a score of 37.2 it still falls well short of Spain’s score of 56.5, contrasting with the bond yield spread favouring the SSA sovereign. In fact, Zambia, along with several other borrowers in the region – Tanzania and Nigeria especially – ranks barely above Greece in the ECR score-stakes.

This might seem illogical. After all, Zambia’s economy is growing fast, with its real GDP expanding by 7.0-8.0% per annum, according to the International Monetary Fund (IMF), underpinned by high activity rates in the mining and non-mining sectors. Compare that to Spain’s pitiful performance recently, where the prevailing economic contraction is expected to carry on for another year at least as the government gets to grips with its debt problems.

On inflation, Spain performs better, but this is partly due to differences in economic growth, and, in any event, inflation is predicted to fall in Zambia to a more manageable rate of 5% next year. Zambia’s current account, meanwhile, is in surplus and its foreign exchange reserves’ import cover adequately meets – even slightly exceeds – the IMF’s three-month minimum, considered to be a safe rule of thumb.

Thus, in the absence of external shocks, its economic trends appear favourable, and that includes the country’s debt dynamics. External public and publicly guaranteed debt, at $2.1 billion (11.6% of GDP) before this year’s $750 million sovereign bond issue, was very low by African standards, and serviceable.

All of this is reflected in Zambia’s economic assessment score of 40.1, which might not be particularly high, but beats Spain’s score of 39.3. Yet, as illustrated earlier, country risk is more than just an assessment of economic factors.

In terms of its political environment and structural development, Zambia, still a poor country reliant on aid – with a GDP income per capita of just $1,070, compared with $31,650 for Spain, according to the World Bank – is found wanting. Indeed, even in the middle of a serious banking crisis and sovereign debt distress, Spain is considered far stronger on both counts, highlighting its more advanced political institutions, low levels of perceived corruption and better regulatory environment.

The gulf between the two in a range of other indexes and surveys, including the World Bank’s governance indicators and Doing Business guide, and Transparency International’s corruption ratings, to name but a few, bears this out. There is a similarly large gulf between the two countries in terms of their respective structural assessments, where Zambia scores less than three out of 10 for each sub-factor: soft infrastructure; demographics; hard infrastructure; and labour market/industrial relations.

 Source: ECR

This article was originally published by Euromoney Country Risk.