EM Corporate Debt: Not Done Yet

Mid Week Bond Update

EM Corporate Debt: Not Done Yet

Even after a strong 2019, aggregate fundamentals for EM Corporates remain positive.


Amid record returns in major segments of the fixed-income universe in 2019, investors holding Emerging Market (EM) debt could be forgiven for rechecking the fundamentals driving the sector after its breathtaking gain of over 14% in 2019.1

While there’s a daunting collection of macro risk factors – trade, geopolitics, local politics and more – there are also grounds for continued optimism in this famously volatile part of the market.

One key measure recently highlighted by Western Asset is the quality of the balance sheets of EM investment-grade (IG) corporate debt – which have held steady in aggregate. That’s noteworthy given the increase in net leverage among US IG debt issuers during the same period -- the result, among other factors, of the borrowing binge supported by the combination of rock-bottom rates, low spreads, and constant demand for new issuance.


Net Leverage: EM Investment Grade and US Investment Grade

Chart courtesy of Western Asset. Source: J.P. Morgan, as of 30 September 2019. Note: 1 Excludes Real Estate, 100% quasi-sovereigns.  Past performance is no guarantee of future results.  This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.


Though Western Asset sees selective value in the sector, especially within local currency bonds, it also finds selective opportunities in high-yield as well as bank loans and structured products.
 

On the rise: Buenos Aires’ creditors

Negotiations between the Province of Buenos Aires and its creditors continued with an improvement in the terms offered to bondholders: the province is now offering $7.2 million in interest in exchange for pushing back the date for the $250 million in principal due on January 31 to May 1. The previous request for a delay included no payment to compensate creditors for the delay.

The idea behind the offer is to forestall declaring Buenos Aires in default, which would leave its creditors in worse shape than they are already – a recent quote for the bonds in question was for just under 54 cents on the dollar.

To date, the creditors as a group showed little enthusiasm for the offer. While the $7.2 million is an improvement for bondholders, there has been no plan put forward by the issuer as to how the principal would be paid on May 1, or how the rest of the payments would be met.
 

On the slide: Italian yields

The yield on Italy’s 10-year sovereign debt fell to 1.028% on January 28, pushing the spread vs. the benchmark German 10-year sharply downward, to about 136.9 basis points.2 The apparent cause for the improvement was the electoral defeat of a conservative candidate in a closely followed bellwether regional election.

The result was taken both as an indication that the strength of Mario Salvini’s party, the League, has weakened in its regional base in the North – and as a near-miss on yet another political crisis in national politics. The League has been outspoken in its interest in a snap election in Rome, in the hope of capitalizing on Salvini’s personal popularity to tilt the balance of power toward the right in the national government. The positive reaction of Italy’s bond market to the election presumably reflects a perceived reduction of both political uncertainty and concerns about potential deficit spending should a populist party take power.

 

Note: The year for all dates is 2020 unless otherwise indicated


Endnotes:

1 Source: Bloomberg. The J.P. Morgan EMBI Global Total Return Index rose 14.4% between 12/31/2018 and 12/31/2019.

2 Source: Bloomberg, January 28, 2020, 4”00 PM ET


Definitions:

Emerging markets (EM) are nations with social or business activity in the process of rapid growth and industrialization. These nations are sometimes also referred to as developing or less developed countries.

A spread is the difference in yield between two different types of fixed income securities with otherwise similar characteristics..

Investment-grade bonds are those rated Aaa, Aa, A and Baa by Moody’s Investors Service and AAA, AA, A and BBB by Standard & Poor’s Ratings Service, or that have an equivalent rating by a nationally recognized statistical rating organization or are determined by the manager to be of equivalent quality.

Leverage refers to the amount of debt held by a company or sector of the market. Gross Leverage refers to total debt divided by the last 12 months (LTM) earnings before interest, taxes, depreciation and amortization.

Net leverage is net debt (total debt minus the value of cash and other similar liquid assets) divided by the last 12 months (LTM) earnings before interest, taxes, depreciation and amortization.

A basis point is one one-hundredth (1/100, or 0.01) of one percentage point.

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