Fall Forum Panel: Halcyon Days Likely To Continue For Near
Future, Although Rate Hikes Will Eventually Affect Prices, Growth
A standing-room only crowd of 150 EM professionals attended EMTA’s Fall Forum on Thursday, October 9, 2003. UBS Investment Bank hosted the seminar in midtown New York City.
Michael Gavin (UBS Investment Bank) commenced the session with a request for views on the global economy and its impact on EM debt pricing. Ruggero de’Rossi (OppenheimerFunds) responded that he was concerned about the US current account’s eventual effect on EM debt. While EM countries are currently in a good phase with economic indicators picking up, and the US Federal Reserve Bank on hold, accelerating growth will hurt the US current account, de’Rossi affirmed. The US dollar will depreciate (which would help countries which borrow in dollars), but the “income effect” would be an even more harmful ramification. De’Rossi expressed concern that capital would flow into the US and away from emerging countries.
Panelists Debate IMF Leniency
Gavin next asked if the “kinder, gentler IMF was for real,” referring to recent finessing of the terms of some IMF loans. Lacey Gallagher (Credit Suisse First Boston) declared that, in contrast to prior policy, it appears that “almost any country is saved from failing by the Fund,” and that countries might be “bailed out for quite a bit longer than is good for either the country itself or the markets.” Ms. Gallagher suggested, specifically referring to cases such as that of Argentina, that such a strategy might lead to an even larger “blow up” than if the IMF had not initially acted to avoid a default. Waivers to IMF targets have been granted in the case of Uruguay, she noted, despite her belief that Uruguay’s debt burden was sustainable. An interesting future case, stressed Ms. Gallagher, was Ecuador, which has had “substantial slips” with its IMF targets and has been warned about failure to meet current targets.
In response, Dave Rolley (Loomis, Sayles) attributed IMF leniency over the past two years not to a policy change per se but to the worldwide near recession when, “the last thing the world economy needed was a deflationary shock of any type whatsoever.” Rolley opined that the IMF position might be less lenient in a more positive global economy.
Risks to Current Market Bliss
As for the market participants’ concerns for the future, Merrill Lynch’s Tulio Vera remarked that, “risk appetites have come back in a big way over the last twelve months” and the asset class has gained broader acceptance, with a more diversified base of investors, both geographically and in terms of investor types. This is all positive, commented Vera, but the nadir in global rates has passed and “what will kill us in the end” is if we get a more robust global growth, which will rekindle interest in the equity markets. De’Rossi concurred that the “sweet spot” has passed, and advised investors to adopt a conservative stance, and to buy default protection.
Ms. Gallagher highlighted the general improvement in Latin fiscal deficits, which she reasoned has served to underpin spread tightening in the asset class. She pointed out that recent shifts towards domestic borrowing and flexible exchange rates have reduced the vulnerability of most EM countries to external shocks. The success stories of Eastern and Central Europe are more important than any negative headlines from other EM countries, she asserted.
Rolley noted that spread levels are last seen in 1997-98 prior to the Russian Crisis but declared it would be misplaced to make comparisons with that period because we are at a different point in the business cycle. “We are just starting to grow this time,” he stated.
Panel Comments on Argentine Restructuring
Gavin polled the panel for their opinions on how the Argentine restructuring would play out, and for their thoughts on possible precedents it might set. De’Rossi remained cynical. The Argentine proposal was “quite foreseeable,” he argued. “Of course they are going to come with a ridiculous offer, just as it is quite ridiculous for bondholders to be shocked about it,” he affirmed, calling recent public announcements “just the beginning of negotiations.” De’Rossi questioned, “Do I want to wait a year for all these lawsuits and be involved in a country with that legal situation?” and concluded that, without an extensive legal team, he prefers to buy Bodens (which the government considers senior debt) and will avoid Argentine global bonds.
Ms. Gallagher echoed de’Rossi’s comment that the Argentines were acting in their own self-interest in talking down the price of their external debt. The wild card is what effect investor lawsuits will have on the process, she commented. “But more importantly,” Ms. Gallagher asserted, “what is their medium-term economic vision?”
Brazil Urged to Continue on Current Path, But Should Work on Debt Profile
Gavin solicited comments from the panel on what President Lula’s administration would have to do in order that Brazilian debt spreads contract another 200 bps. Vera stressed that he is a large believer that Brazilian debt pricing is driven more by external factors than by domestic, endogenous dynamics. Thus, Vera surmised, the Lula team would simply have to continue on its current path of easing monetary policy (while signs of economic activity picking up materialize) and addressing some of the country’s weaknesses-such as reducing dependence on US dollar-linked debt, increasing foreign exchange reserves and continuing with reforms.
De’Rossi believed that continued lowering of rates and a pickup in the economy are already factored into current prices. He continued, “My concern is that the Brazilians might not be quick enough to take advantage of the current external economic environment to stretch out the maturity of their debt.” Brazilian officials are doing a better job than before, de’Rossi acknowledged, but he urged that they be more aggressive because “the window may close” in the next six months.
Don't Blame China for Mexican Import Losses
Gavin asked if the recent “hint of anxiety” in the market vis-à-vis Mexico was warranted. Despite some analysts blaming China for Mexico’s losing market share in the US import market, “the lack of reforms, the expensive energy costs and poor road infrastructure” are the real reasons, Ms. Gallagher declared. Rolley pointed out that Mexico actually imports gas from Texas, and recently announced an 18-year contract to import gas from Peru. “That sort of tells you something about the functionality of Mexico’s exploiting its natural resources today,” he observed.
Panel Recommends Non-Dollar Paper, Brazil
As for panelist recommendations for the next six-months, Vera was bullish on euro-denominated debt (forecasting a 12% return on the euro alone in twelve months). Specifically, Vera recommended Gazprom corporate bonds and Brazil ‘09s. De’Rossi agreed with Vera that dollar depreciation would be a key post-Dubai IMF theme, but countered he would actually prefer yen-denominated, or any Asian currency-denominated, EM paper.
Rolley predicted equity would outperform debt, and suggested that investors focus on equity-type alternatives “and that means straight corporates, although you have to be selective on the story, or busted convertibles.” Ms. Gallagher advised clients to consider the short end of the Brazil curve.
Following the panel discussion, attendees were also treated to a cocktail reception, at which time they could take in UBS’ collection of original works of art by contemporary artists such as David Hockney, Lucien Freud, Cindy Sherman and Damien Hirst.