How much trouble for EM corporate borrowers?

Liseth Galvis-Corfe - 19 July 2018

There is a shocking lack of perspective in many commentaries on EM corporate debt, with special reference to US Dollar exposures. According to IIF, the range of foreign currency denominated non-financial corporate debt, scaled by GDP, runs from China (7 per cent) to Turkey and Chile (36 per cent).  While EM corporate debt has been accumulating much faster than before, it reflects an extraordinary climate for funds supply. The feeding frenzy will soon come to an end and it is the arbitrary investors in EM debt who will be left with indigestion.

It is true that emerging market borrowing in foreign currencies – mainly US Dollars - has surged in the past two years (figure 1). Between June 2016 and June 2018, the US Federal Reserve has lifted the funds rate from 0.5 per cent to 2 per cent, compounded by a 5.7 per cent appreciation on the US Dollar index in 2018. Higher borrowing costs in domestic currency have triggered a sell-off in EM assets and currencies; according to the Institute of International Finance (IIF), foreign investors pulled US$12.3bn from emerging markets in May 2018, the largest outflow since November 2016.

On a longer-term comparison, emerging market non-financial corporate debt (in all currencies) has increased substantially, from 60 per cent of GDP in 2002 to 90 per cent of GDP in 2017.  However, there is wide dispersion of experience. Taking a closer look (figure 2) at the changes in the debt ratio for the past 3 years, the corporate sector has de-leveraged in Hungary, Czech Republic, Thailand, Korea and Indonesia. The less attractive countries are Singapore, Turkey and China. According to the data provider Wind, between January and May 2018 a total of 19 Chinese corporate bonds have defaulted, relative to 49 defaults for all of 2017.

According to the Institute of International Finance (IIF) the countries that have the highest proportion of US$ non-financial corporate debt as a proportion of GDP are Turkey (20.5 per cent) and Brazil (14.8 per cent). The least exposed EM countries in US$ are Czech Republic (2.4 per cent), Poland (3 per cent) and China (6.8 per cent).

In a few EM countries, there has been a spike in sovereign 5-year credit default swaps. It can be seen (figure 3) that in Turkey, Brazil and South Africa, respectively, CDS rates have increased by 96 per cent, 67 per cent and 26 per cent between January 2018 and June 2018.  However, for countries such as Czech Republic, Hungary and Thailand, CDS rates have barely budged (figure 4).

The corporate bond universe is extremely diverse and, for the most part, resilient. Outside of a handful of special situations, credit risk has remained under control. It is important to avoid generalizations and look in detail at the exposures and vulnerabilities of specific countries and sectors to changes in US borrowing costs. For example, the creditworthiness of EM oil companies has clearly improved since 2014. More rigorous analysis, less arm-waving, required.   


Figure 1

Data source: Institute of International Finance (IIF)

Figure 2

Non- financial corporate debt as a percentage of GDP

 

Q4 2007

Q4 2014

Q3 2016

Q3 2017

3 years change 

Hungary

80

90

73

69

-21

Czech

45

70

57

58

-12

Thailand

50

60

49

49

-11

Korea

90

110

102

101

-9

Indonesia

20

30

23

22

-8

Russia

45

60

53

53

-7

India

40

50

49

46

-4

Brazil

35

45

44

41

-4

Mexico

20

30

27

26

-4

South Africa

39

37

38

38

1

Poland

38

45

48

48

3

Saudi Arabia

38

40

52

49

9

China

90

150

166

163

13

Turkey

30

50

63

69

19

Singapore

60

80

119

120

40

Data source: Institute of International Finance and EP calculations.

Figure 3


Data source: Thomson Reuters Datastream

Figure 4

Data source: Thomson Reuters Datastream



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