Latin America: Investors shrug off high yield’s political risk
Prompted by high liquidity and yield hunger, but appeal might be dampened by rising developed markets.
Costa Rica has joined Ecuador in the queue of Latin American frontier credits that plan to undertake international bond issues in 2013.
Ecuador confirmed that it will seek to return to the market for an expected $500 million transaction, after it has conducted an exchange offer with its holdout creditors from its default in 2008. Costa Rica will shortlist bookrunners for its return to the markets following its $1 billion bond in November 2012, which was the country’s first deal in eight years. Citi and Deutsche Bank led that Baa3/BB+/BB-rated deal that yielded 4.25% and attracted four-times over-subscription.
Bankers note that the proceeds of Costa Rica’s bond will be used to finance the fiscal deficit, which ordinarily weakens demand. However, Honduras’s transaction in March attracted a book that peaked at $2.5 billion, although it shrank after Barclays withdrew from the transaction shortly before it priced following the emergence of an undisclosed $205 million lawsuit related to a government-owned forestry agency.
The turmoil forced the issuer, then solely led by Deutsche Bank, to increase the yield to 7.5% from an expected 6.75% to 7%, but demand was said to have remained strong. Investors were also not put off by two negative outlooks from rating agencies caused by Honduras’s fiscal challenges resulting from weak tax collection, limited fiscal flexibility, poor control over spending and rising debt levels.
In its negative outlook Moody’s also pointed to the country’s widening current account deficit, which is not fully financed by FDI flows.
The willingness of investors to drop down the ratings curve and put aside political risks is being explained by the continuing high levels of liquidity and a search for yield. However, with the long end of the US treasury curve beginning to rise there are questions about how these higher-yielding credits will perform in an environment of rising developed markets.
“The DCM market has been under a lot of anaesthesia,” says one market participant. “The question is how is that anaesthesia going to be removed and in how orderly a fashion can this happen?”
Felix Huefner, head of global macroeconomic analysis at the IMF, says the Federal Reserve’s threshold for increasing rates – that of the US unemployment rate going below 6.5% – could be hit in the middle of 2014 and that the implications for emerging market debt could be significant.
“Remember 1994; when rates start turning accidents happen,” he says, pointing out that in Germany bond yields rose on US treasuries even though the Bundesbank was easing rates. “It will definitely have a global impact, but the lesson from 1994 is that it is very difficult to say where a crisis will occur – it tends to be where you least expect them.”