Coronavirus puts clutch of countries in junk rating danger zone

Public buses parked at a bus station in Bogota. S&P Global’s mass scalping of oil producers last week has left Colombia just one notch from junk status. (AFP)
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Updated 04 April 2020

Coronavirus puts clutch of countries in junk rating danger zone

LONDON: Being stripped of one’s investment grade credit rating is a chastening moment for any government, but the crushing economic impact of the coronavirus, and for some the oil market crash, are putting at least half a dozen countries at risk.

South Africa, long a likely victim, was demoted to “junk” by Moody’s on Friday, and now that the virus has tipped it over the edge, the focus is on who might be next.

There is no shortage of candidates.

Deep recessions and the cost of bolstering health care systems and bailing out firms is sending debt levels soaring from Italy to India, where ratings are already on the low rungs of investment grade.

S&P Global’s mass scalping of oil producers last week has left Colombia just one notch from junk and Mexico, with its $130 billion bond market, just two cuts away.

“This a very expensive fiscal exercise,” fund manager Eaton Vance’s head of country research Marshall Stocker, said of the epidemic. “In every way it is going to challenge debt ratings.”

Becoming a ‘fallen angel’ — as a downgrade to junk is known in rating agency parlance — can set off a wave of problems.

It automatically excludes the country’s bonds from certain high-profile investment indexes which means conservative funds — active managers as well as passive “trackers” — are no longer able to buy and sell them. It can cut the bonds’ value as collateral in central bank funding operations too.

Credit default swaps (CDS), which can be used to insure against debt problems, currently foresee Mexico, India, Indonesia and Colombia all being demoted to junk, according to an S&P Capital model called the Market Derived Signal Score.

The model also has Italy showing as one cut away, rather than the two that its BBB S&P rating actually represents, and A- grade Saudi Arabia too as being only one step away rather than four.

Morgan Stanley doesn’t expect any more moves into junk this year, but its strategist Simon Waever points to cuts to junk being priced into bond markets for both Colombia and Mexico, noting that the anticipation of a move to non-investment grade tends to do more damage than the actual cut.

Brazil was estimated to have seen over $20 billion yanked out of its markets when it lost investment grade in 2015.

“The majority of the (bond yield) spread widening happens before the downgrade. Then when the downgrade comes there is a bit more but then it stops and starts to recover.

“For Mexico and Colombia they (bond spreads) are already pricing these downgrades coming,” Waever said.

Morgan Stanley’s European analysts have also pinpointed Italy as another potential downgrade risk if rating agencies turn more cautious.

S&P and Fitch both have negative outlooks on their BBB Italy ratings. S&P has warned of a 10 percent euro zone economic contraction if lockdowns last, though it has also stressed the importance to Italy of the European Central Bank’s bond buying support.

S&P’s former head of sovereign ratings, Moritz Kraemer, who led the firm’s mass downgrades during the euro zone debt crisis, has come up with some stark calculations.

Aggregate government debt in the euro zone shot up from 65 percent to 90 percent of GDP between 2007 and 2012, and sovereign ratings fell around three notches on average.

Kraemer sees euro zone debt topping 100 percent this year and Italy, which has been hit the hardest by COVID-19 and is also Europe’s largest debtor, faring worse.

A “10/10” scenario in which an economy contracts 10 percent this year and its budget deficit worsens by 10 percentage points of GDP, would see Italy’s debt spike from 130 percent to 158 percent this year and to 167 percent by the end of 2022.

If the same happened in France, its debt rate would be 135 percent, Portugal’s 144 percent and Spain’s 129 percent.

“The deterioration of public finances is likely to turn out worse now than during the euro area crisis,” Kraemer said.

“With the backdrop of the devastating scale of the human tragedy and the outsized economic repercussions threatening Italy, the scenario of the sovereign slipping into speculative grade can no longer be easily dismissed.”


EU pledges to stay green in virus recovery

Updated 29 May 2020

EU pledges to stay green in virus recovery

  • To help economies from the 27-nation bloc bounce back as quick as possible

BRUSSELS: The European Commission pledged on Thursday to stay away from fossil-fueled projects in its coronavirus recovery strategy, and to stick to its target of making Europe the first climate neutral continent by the middle of the century, but environmental groups said they were unimpressed.

To weather the deep recession triggered by the pandemic, Commission President Ursula von der Leyen has proposed a €1.85 trillion ($2 trillion) package consisting of a revised long-term budget and a recovery fund, with 25 percent of the funding set aside for climate action.

To help economies from the 27-nation bloc bounce back as quick as possible, the EU’s executive arm wants to increase a €7.5-billion ($8.25 billion) fund presented earlier this year that was part of an investment plan aiming at making the continent more environmentally friendly.

Under the commission’s new plan, which requires the approval of member states, the mechanism will be expanded to €40 billion ($44 billion) and is expected to generate another €150 billion in public and private investment. The money is designed to help coal-dependent countries weather the costs of moving away from fossil fuels.

Environmental group WWF acknowledged the commission’s efforts but expressed fears the money could go to “harmful activities such as fossil fuels or building new airports and motorways.”

“It can’t be used to move from coal to coal,” Frans Timmermans, the commission executive vice president in charge the European Green Deal, responded on Thursday. “It is unthinkable that support will be given to go from coal to coal. That is how we are going to approach the issue. That’s the only way you can ensure you actually do not harm.”

Timmermans conceded, however, that projects involving fossil fuels could sometimes be necessary, especially the use of natural gas to help move away from coal.

The commission also wants to dedicate an extra €15 billion ($16.5 billion) to an agricultural fund supporting rural areas in their transition toward a greener model.

Von der Leyen, who took office last year, has made the fight against climate change the priority of her term. Timmermans insisted that her goal to make Europe the world’s first carbon-neutral continent by 2050 remained unchanged, confirming that upgraded targets for the 2030 horizon would be presented by September.

Reacting to the executive arm’s recovery plans, Greenpeace lashed out at a project it described as “contradictory at best and damaging at worst,” accusing the commission of sticking to a growth-driven mentality detrimental to the environment.

“The plan includes several eye-catching green `options,’ including home renovation schemes, taxes on single-use plastic waste and the revenues of digital giants like Google and Facebook. But it does not solve the problem of existing support for gas, oil, coal, and industrial farming — some of the main drivers of a mounting climate and environmental emergency,” Greenpeace said.

“The plan also fails to set strict social or green conditions on access to funding for polluters like airlines or carmakers.”

Timmermans said the EU would keep investing in the development of emission-free public transportation, and promoting clean private transport through the EU budget.