Country Risk: In search of a new sovereign investment-grade

Jeremy Weltman
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With the main ratings agencies differing in their assessments of credit risk, identifying countries ripe for a future investment grade rating is a complicated task, Jeremy Weltman reports.

Utilizing the tiered approach to sovereign risk encapsulated within Euromoney’s Country Risk Survey, in conjunction with long-term score trends, highlights several borrowers with potentially bright prospects. But only one – the Philippines – is on the cusp of losing its junk bond status.

Finding the next investment grade sovereign bond issuer is an important element of investment strategy, but one that is also complicated by conflicting opinions among the raters amid the many angles to sovereign risk – be they economic, political or structural.

ECR’s scoring method of risk experts’ opinions is now a well-established alternative to the ratings agencies, not least because of its regular, quarterly updates and rankings approach, with countries placed into five tiered groups based on their total scores. Economists and country-risk experts are asked to evaluate 15 separate indicators.

The survey, with its fluid assessment of changing risks, can often unearth interesting anomalies to the agency’s views. Long-term trend movements in scores are one important aspect of Euromoney’s approach.

According to the survey, a credit rating upgrade to the Philippines is long overdue (see chart, above). The sovereign is currently placed above six investment grade borrowers – all in blue – at the top of the fourth of ECR’s five tiered groups. If there is to be a new investment grade the Philippines is a prime candidate – its long-term trend improvement suggests it will soon rise into tier three.

Currently the majority of the 35 sovereigns contained within tier three of Euromoney’s 185-country Global Risk Data Table are rated investment grade by one or more of the main agencies – Fitch, Moody’s and Standard and Poor’s (S&P).

The few exceptions (ignoring unrated, but cash-rich oil and gas producer Brunei) are 46th-placed Barbados, which lost its investment grade status last July following a downgrade by S&P (Barbados Slips from Investment Grade), bankrupt Portugal currently in receipt of a bailout programme, lying in 65th spot, and Hungary.

The lowest tier-three sovereign of all, Hungary, now at 68th, has rapidly fallen out of favour equally among ECR experts and the raters ( Hungary policy blunders spook rating agencies). The borrower crashed 11 places last year and has plummeted 25 in total since 2007, before stabilizing during the second half of 2012.

What do the ratings agencies claim?

With global risks continuing to rise in 2012, leading to several ratings downgrades across all investment and speculative grade categories, and potentially putting some sovereigns in danger of junk status, an important question arises: Is there a new investment grade sovereign to be found?

The raters seem to differ quite substantially in answering this question.

Fitch currently has eight candidates close to investment grade (rated BB+). Of those, five are stable (Costa Rica, Guatemala, Hungary, Macedonia and the Philippines), suggesting that an upgrade is not likely anytime soon. An additional two (Portugal and Tunisia) are negative. Both have slipped alarmingly in ECR’s survey, too, over the past five years, justifying a downgrade. That leaves just one, Uruguay, on a positive outlook.

ECR members have been regularly tipped off about Uruguay’s relative merits with one of ECR’s contributing experts, Antonio Juambeltz, a financial advisor at the Uruguayan Ministry of Finance, providing regular updates on the country’s progress (Uruguay in focus).

But Fitch is playing catch-up it would seem. Both Moody’s and S&P already have Uruguay on investment grade, a level endorsed by its ranking of 62nd in the ECR survey, a rise of three places this year and a 23-place jump since 2007. A Euromoney special report (The 2012 guide to Uruguay) has highlighted the sovereign’s relative merits.

Moody’s currently has just one country – Turkey – rated Ba1 positive and thus on the brink of its lowest investment grade (its Baa3 category). But, although a comfortable tier-three sovereign with its indicators all pointing to only moderate risks (see: Turkey Country Report 2013, thereby underscoring its claims for investment grade status, Turkey is still perplexing the raters.

S&P is not confident enough in Turkish bond prospects just yet – its BB rating is stable – but Fitch already gives Turkey the thumbs up with its BBB- rating.

Meanwhile, of the five borrowers within S&P’s highest speculative grade (BB+), two come attached with a positive outlook: Indonesia and the Philippines. Both countries have certainly been attracting the attentions of investors lately. Fitch is positive on Indonesia, rating the country BBB-, and a Baa3 (stable) rating from Moody’s concurs with this view. Two other BB+ sovereigns – Barbados and Romania – are currently stable, and a fifth, Croatia, is negative.

That leaves the Philippines with the most interesting claims for investment grade.