African risk: the signs are becoming more obvious that investors need to tread with utmost caution
Risk scores deteriorated for several African countries in Q1 2019, according to Euromoney’s country risk survey, worsening adverse five- and 10-year trends for many of the region’s more sought after credits.
Although Botswana, Côte d’Ivoire, Ghana and Senegal still offer comparatively safe bets, analysts have downgraded higher-risk borrowers, including Zambia (ranking 124th in Euromoney’s global risk table, from 186 countries), Mozambique (143rd) and Zimbabwe (169th) among others.
Although a range of political, economic and structural risk factors are at play, one of the bigger issues is the worsening fiscal metrics, and the associated policymaking and corruption risks.
Guinea, Burkina Faso, Liberia, Angola, Mali and Niger are among the countries with the largest downgrades to scores for the government finances indicator on a five-year basis. Kenya, South Africa and Zambia have seen the worst slide over 12 months.
The situation has improved since the heavily indebted poor countries (HIPC) initiative was ushered in by the IMF and World Bank in 1996.
It was supplemented with the multilateral debt relief initiative (MDRI) in 2005 providing 100% relief on liabilities owed to the African Development Fund, IMF and World Bank for reaching completion point under the HIPC initiative process.
The IMF states that debt relief under the HIPC initiative and the MDRI would reduce by more than 90% the debt stocks of the 26 African countries that reached the decision point, while debt servicing costs for these countries declined by about three percentage points of GDP between 1999 and 2006.
Yet the problem is gradually becoming a notable issue again for many countries.
In Kenya, which is still showing a slightly negative five-year risk score trend, the rise in debt is a concern for risk experts.
It has grown from just above 40% of GDP five years ago to 55%, notes Rafiq Raji, chief economist at Macroafricaintel, one of Euromoney’s survey contributors.
“It is even more of a concern in light of the recent warning by Central Bank of Kenya governor Patrick Njoroge in this regard,” he says.
“Restructuring some of the debt to ease current pressures on revenue from debt servicing would be a welcome measure. More importantly, the authorities should probably delay new borrowing plans until the current debt level has been substantially reduced.”
Isaac Matshego, another survey contributor, and economist with Nedbank, is concerned about the debt servicing capabilities of a number of countries.
“I am particularly worried about the situation in Zambia, as the currency has been under pressure due to fiscal pressures, debt repayment obligations and heightened negative market sentiment, while the demand for foreign exchange for imports has been raised by elevated oil prices in particular,” he says.
“The stock of gross foreign exchange reserves has dropped below $2 billion, while monthly average FX inflows from the mining sector were down by 40% in the first five months of 2019 compared with the same period in 2018.”
He adds: “The major worry is whether the sovereign will be able to meet the repayment of its debut $750 million Eurobond when it matures in September 2022.”
A big factor for Matshego and other risk experts concerns Chinese bilateral debt, the extent of which has not been fully disclosed by any of these governments.
This is underlined by low and/or declining scores for the information access/transparency indicator in a number of African countries in Euromoney’s survey.
Another issue is internal conflict for countries such as Somalia and Sudan, which are having difficulty reaching the completion point to secure debt relief; they also have substantial arrears.
In all, some 19 countries exceed the 60% of GDP threshold prescribed by the African Monetary Cooperation Programme, with 24 countries above the 55% debt-to-GDP ratio suggested by the IMF.
In its latest Regional Economic Outlook, the IMF notes that 16 sub-Saharan African countries are classified as having either a high risk of debt distress (they are Burundi, Cameroon, Cape Verde, Central African Republic, Chad, Ethiopia, Ghana, Sierra Leone and Zambia), or being in debt distress (Republic of Congo, Eritrea, The Gambia, Mozambique, São Tomé and Príncipe, South Sudan and Zimbabwe).
In several countries, mitigating factors such as GDP rebasing, better revenue collection or economic growth have improved debt-servicing capacity, but there are vulnerabilities to commodity price and foreign-exchange volatility, as well as an accumulation of domestic arrears and acute financing constraints – not least caused by large loss-making state-owned enterprises in certain cases.
A distinctive feature is the composition of the debt, write Chukwuka Onyekwena and Mma Amara Ekeruche in a recent paper for Brookings Institution, who make three important points for investors to be wary of:
First, countries are tilting away from official multilateral creditors and the stringent conditions attached, toward non-concessional debt with relatively higher interest rates and lower maturities.
“This trend raises concerns around debt sustainability given the possibility of higher refinancing risks – particularly for commodity-backed loans in the event of a commodity price shock – and foreign-exchange risks,” they state.
Second, they note the risks of private sector non-guaranteed external debt tripling from $35 billion in 2006 to $110 billion in 2017, which could result in balance-of-payment problems as the private sector competes with the public sector for foreign exchange.
“Also, it may increase the government’s exposure to risks associated with contingent liabilities in the event of a default,” they state.
Third, countries witnessing a deepening of their financial markets are increasingly borrowing from their domestic debt market.
“While tapping into the domestic debt market provides a sound alternative and does not expose the country to foreign-exchange risk, it has the potential to crowd out private sector borrowing, thus hampering investment and output growth.”
The region is, of course, large and varied, but it also has the largest preponderance of high (tier four) and highest risk (tier five) credits in Euromoney’s survey.
With debt rising, investors require steady nerves to ensure their stock selections guarantee longer-term returns.