LatinFinance - March/April 2014 - 22

cover
story
local
currency
debt

Currency volatility means foreign investors are shying away
from local government bond markets - exaggerating differences
between countries. By Eduardo García

Pick and
choose
A

tougher international credit market is likely to mean one main thing in 2014 for
sovereign borrowers in latin america: they will issue less external debt than last year - 28%
less, according to ratings agency fitch.
Hard currency issuance will drop to $17.3 billion this year, the agency says, while
governments are likely to rely more heavily on their local markets for their funding needs.
for public debt managers in latin america, this means adapting to a new world in which
they will struggle to raise external debt on terms as favorable as in the past.
"With [the winding down of] Qe we'll probably have higher interest rates and higher
financing rates than the ones we have enjoyed in the past few years," says michel Janna,
colombia's director of public credit. "But it's the new equilibrium; it's the new reality and we
have to be ready for it."
after January's sell-off in emerging markets, sovereigns are unlikely to issue in hard
currency "unless they have to," says césar arias, associate director at fitch. He estimates that
latam governments could cover up to 91% of their borrowing needs from domestic sources,
up from 85% percent last year.
Sovereigns with lower credit ratings will find the new conditions in dollar bond markets
particularly challenging. this year, costa Rica and the Dominican Republic have to issue $1
billion and $1.5 billion respectively, says arias - while others, like Bolivia and Paraguay, may
have to wait before they issue again.
that doesn't mean that international investors will prefer buying local currency bonds,
however - far from it. the winding down of monetary stimulus in the US, an economic
slowdown in china and overall increased currency volatility has dampened appetite for local
currency government bonds even more than hard currency bonds.
flexible currency regimes, like Brazil's, are often seen as a sign of greater stability. "in
argentina and Venezuela, you have heavily managed peg regimes where you see disruptive
risks," says lupin Rahman, portfolio manager at Pimco. "everywhere else there are
much more managed floats, so currencies tend to move in line with the macro and risk
background."

22 l atinfina nce.com - March/April 2014

However, currency volatility will mean
more investors continue to look away
from local currency government bonds -
especially in more vulnerable countries.
fitch, for one, has a bearish prognosis for
latin american currencies, particularly the
Brazilian real, arias says.
azucena arbeleche, Uruguay's head
of public credit, says foreign holdings in
the country's local bond market surged to
45% in may 2013, up from 2% in early 2012.
flows were so strong the government put
in place new local reserve requirements
for additional purchases of the paper, after
which the percentage fell to 39%.
With greater volatility in latin america's
foreign exchange markets unlikely to abate,
will local government debt in countries like
Uruguay - whose currency had already
lost around 6% of its value against the
dollar by late february - still have appeal to
international investors?
Despite rising rates, global liquidity
remains strong in historic terms, and
portfolio managers still need to deploy
that cash. With the eurozone and the US
struggling to recover, and sluggish growth
in Japan, latin american local currency
debt can still offer international investors
relatively healthy returns.
"if you are a US domiciled investor,
you're still picking up less than 3% in 10year US treasuries, while in most of the
equivalent paper in latin america you have
a much higher yield pickup, which is much
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