Uruguay’s debt record set for tough challenge

By:
Rob Dwyer
Published on:

Record low yields for sovereign’s recent deals; slowing economy, deteriorating fundamentals.

Fernando_Lorenzo_600px
Fernando Lorenzo, the former economy minister


Uruguay’s reputation as the best-managed economy in Mercosur has been enhanced this year with some timely bond deals that have optimized its debt management strategy. 

However, with both its big neighbours, Argentina and Brazil, set for recession next year (and the latter for the second consecutive year) Uruguay faces the challenge of maintaining its credit appeal by tightening its fiscal performance at the same time as its economy slows.

Uruguay is the only Mercosur country with an investment-grade rating from all three main agencies and the status was hard won. 

Fernando Lorenzo, the then economy minister, complained to Euromoney in June 2011 that the rating agencies were slow to recognize the improvement in the country’s financial fundamentals. 

However, since Fitch was the last to rate it as investment grade in March 2013, the country has capitalized with a strategy of lowering the proportion of its dollar-denominated debt, increasing local currency financing and extending the maturity profile of its remaining external debt. 

Big deals

In 2015, with international investors’ appetite for local currency debt almost nonexistent in emerging markets in general, and Latin America in particular, the sovereign has conducted two big deals. 

The first, in February, was a $1.2 billion retap of its 2050 benchmark, on which it managed to achieve a spread of 235bp over Treasuries – in line with initial price thoughts. The deal, led by Bank of America Merrill Lynch, Morgan Stanley and Santander, extended the average tenor of the country’s outstanding debt.

Also, at the end of October, Uruguay timed another dollar issue to perfection – coming just before US Treasuries started to rise on the back of heightened anticipation of the Fed raising rates in December. 

The deal raised another $1.7 billion of 2027s, which pay a 4.375% coupon, selling the notes at 99.148 to yield 4.475%. The deal was priced at 245bp over Treasuries, with the bookrunners Citi, HSBC and Itaú able to tighten from initial price thoughts of 265bp on strong demand. The book was seen to peak at $3.2 billion. 

This transaction included a debt liability management exercise to take out notes maturing in 2017, 2022, 2024 and 2025. $500 million of the 2027s went to pay for the liability management exercise – with the issuer targeting the 2024s most actively.

Danilo Astori, economy and finance minister, and Herman Kamil, head of Uruguay’s debt management unit, were unable to make themselves available for an interview before Euromoney went to press. 

However, a spokesperson confirmed that the transactions combined to pre-fund Uruguay’s 2016 needs and created a liquidity reserve of 6.4% of GDP, enough to cover more than 18 months of debt servicing. He also pointed out that the October deal was the lowest 10-year dollar coupon ever achieved by the Republic.

Uruguayan_Central_Government_600px


However, while the new government approaches the anniversary of its first year in office there are wider economic challenges to maintaining this strong debt management performance. 

Uruguay has managed to achieve record-low financing through differentiating its credit from other southern Latin American countries, but its challenge for next year will be to maintain the country’s strong reputation among international investors in the face of deteriorating debt dynamics, growing fiscal challenges and a weakening economy.

Uruguay’s fiscal balance has deteriorated since 2013, when it was -2.3% of GDP, to an expected -3.5% of GDP this year. That is feeding inflation, which is expected to hit 9.1% this year and 8.5% next year, above the 3% to 7% official target. Total public debt is also rising, from 57.4% of GDP on 2013 to a projected 62.2% next year. 

The government has responded with a fiscal adjustment worth 1% of GDP but that is based on calculations that assume that the economy will grow at 2.5% this year and next. However, private sector predictions are for 1.8% this year and 1.5% in 2016. 

'Be careful'

Azucena Arbeleche, adviser to the opposition Partido Nacional, previously manager of Uruguay’s public debt, and who was widely expected to have become finance minister if her party had won the 2014 election, says the current administration needs to be careful with its economic and financial inheritance. 

"It took Uruguay a very long time to regain its investment grade so now we should be particularly careful to strengthen fiscal policy to ensure a sustainable path for debt dynamics," she says. "The government should aim at improving the fiscal result, which has been deteriorating in the past year, but through a more efficient resource allocation." 

Arbeleche is also critical of the government’s strategy of pursuing trade agreements through Mercosur rather than following a multipolar approach to trade negotiations, as well as being negative about the administration’s progress on enhancing FDI through improving the economy’s competitive attractiveness for international investors.

"An important pillar to strengthen growth is to reduce the high levels of public tariffs that play against our competitiveness and to boost infrastructure – a point that is hardly being contemplated in the current budget law’s draft," she says. 

"Another key point for growth, and one in which Uruguay is being left behind, is education. We need to invest in good quality education if we need to achieve sustainable growth."