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FEATURING: ECUADOR | ARGENTINA | LEBANON | MEXICO

This week, we highlight our thoughts on the latest developments in key distressed sovereigns (Ecuador, Argentina and Lebanon) as well as the implications for Mexico’s limited response to the global health crisis thus far.

Ecuador’s repaying in full its 2020 Eurobond this week, but taking a 30-day grace period on interest due in March and announcing it will seek a consensual re-profiling of market and bilateral liabilities 

Market Relevance: As authorities in Ecuador scramble to cope with the fallout from the huge twin shocks of the coronavirus epidemic spreading rapidly in the country and a collapse in oil prices depriving the economy of vital USD inflows, the government announced that in order to preserve scarce FX liquidity to confront the crisis, it will seek a consensual restructuring of commercial and bilateral debt obligations. Nevertheless, Ecuador repaid in full $324mn of principal and interest on its global bond that matured on March 24th, but decided to exercise its right of a 30-day grace period on around $200mn of interest due in March.

Gramercy View: We believe the fact that the Ecuadorian government opted for paying the March Eurobond maturity in full, despite the escalating health crisis in the country, clearly indicates a very strong “willingness to pay” by the Moreno Administration. However, it is also clear that in the current environment of freefalling, current account and capital account receipts in Ecuador would not be able to maintain the dollarization regime, its most important macroeconomic anchor, while staying current on external debt obligations. As such, a restructuring of external debt is inevitable. The government has signaled a strong preference for an orderly and amicable re-profiling that would allow Ecuador some liquidity breathing space in the near-term and maintain its ability to receive up to $2.5bn in much needed funds from the IMF, other multilaterals, and new bilateral loans in the coming weeks/months. This being said, we cannot completely rule out the possibility that if the political and social pressures on the ground escalate in a more dramatic fashion (similar to the street protests that erupted in late 2019 due to the government’s attempt to remove fuel subsidies) and the USD squeeze becomes even more severe, the authorities could be forced into a hard default on an upcoming commercial interest payment (there are no maturities on market debt until 2022). Furthermore, if negotiations with the creditors get protracted, they risk colliding with Ecuador’s upcoming election campaign season ahead of what will be a hotly contested and deeply polarizing presidential election in early 2021, (in which a candidate supported by former president Rafael Correa will certainly play a competitive role).

IMF’s technical note on Argentina’s debt sustainability as well as Guzman’s latest presentation indicate a potential starting point for the government in bondholder negotiations 

Market Relevance: The IMF published a Staff Technical Note on Argentina’s Public Debt Sustainability on Friday of last week which was followed by a presentation from the government on their latest macroeconomic assumptions and position on debt. The IMF analysis provides the Fund’s views on potential private sector FX cash flow relief ($50bn-$85bn) needed over the next 10 years in order to achieve and maintain debt sustainability, absent adjustment on official creditor liabilities. Guzman’s remarks offered limited additional insight into the government’s approach.

Gramercy View: While the IMF note provides justification for an aggressive opening position for the government on debt negotiations with private bondholders, the report’s limitations and constraints leave its conclusions subject to debate among investors and thus, an unlikely guide for an ultimate restructuring outcome. The timeline for resolution remains tight particularly amid the ongoing health crisis, but incentives remain aligned for an eventual deal. However, the authorities’ intent to have the IMF complete its Article IV consultation in advance of any future program negotiations or clarity on its official sector maturities will likely complicate the process, particularly given that the Article IV assessment faces delays amid the current environment.

Lebanon’s investor presentation on the government’s reform agenda and guiding principles for the upcoming sovereign debt restructuring

Market Relevance: Lebanon’s Minister of Finance, Ghazi Wazni, and his team held a global investor call to update the market on the latest macroeconomic developments in the country, economic plans to tackle the crisis and the guiding principles for the government debt restructuring.

Gramercy View: The government’s opening message to bondholders strongly emphasized the profound economic and social crisis Lebanon is facing, which is being further exacerbated by the ongoing COVID 19 global health emergency and the associated material economic fallout. The authorities stressed that the principles for the upcoming sovereign debt restructuring must be anchored by the recognition of this extraordinarily difficult reality for the country, which signals to us that the government will seek deep haircuts on both principal and interest of foreign and local currency debt. The recovery plan presented by the authorities promises “a complete reshaping of Lebanon’s economic model and banking system” and is based on three main pillars: reform of the banking sector, a comprehensive fiscal reform, and a growth-enhancing structural reform agenda. While we agree with the need for and the spirit of the measures being identified by the authorities, we see formidable challenges to implementation in the near-term from a political and social perspective, especially in the absence of a formal direct involvement by the multilateral financial institutions for the time being.

Mexico’s lackadaisical response to the ongoing global health crisis combined with its exposure to the U.S. and an already challenged growth outlook point to significant economic risk 

Market Relevance: President Lopez Obrador has had a comparatively dismal and delayed response to the crisis with limited containment and policy measures thus far. Meanwhile, January economic activity data released this week reflected an already weaker than anticipated start to the year (-0.8% YoY vs. consensus expectation of 0.3%). At the same time, a public referendum was held on an international brewery investment, which resulted in cancellation, further weighing on business sentiment. The central bank’s response has been somewhat more in line with peers with a 50bps emergency rate cut last week albeit still short of some analysts’ expectations. Lastly, S&P downgraded Mexico’s foreign and local currency ratings one notch to BBB and BBB+, respectively with a negative outlook.

Gramercy View: Mexico’s gradual credit deterioration will be exacerbated by this crisis and its inadequate response. We anticipate meaningful disappointment on the growth front, increased fiscal challenges, and greater policy uncertainty as the mid-terms approach next July. As such, ratings downgrades are likely to ensue for both the sovereign and PEMEX. While AMLO is likely to remain strongly committed to his agenda and PEMEX, fiscal resources will ultimately prove inadequate for the original investment plan. We anticipate that the sovereign will drain the remainder of its stabilization fund but initially attempt to avoid utilization of its Flexible Credit Facility with the IMF (~$60bn available until November 2021 when up for renewal). While continuation of an inadequate and detrimental policy response is probable, the government’s moderate debt burden and financial buffers, albeit eroding, should allow the sovereign to avoid major capitulation or solvency issues in the near to medium term.

Please contact our Co-Heads of Sovereign Research with any questions:

Kathryn Exum, Senior Vice President, Sovereign Research Analyst
[email protected]

Petar Atanasov, Senior Vice President, Sovereign Research Analyst
[email protected]

This document is for informational purposes only. The information presented is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. Gramercy may have current investment positions in the securities or sovereigns mentioned above. The information and opinions contained in this paper are as of the date of initial publication, derived from proprietary and nonproprietary sources deemed by Gramercy to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. This paper may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this paper is at the sole discretion of the reader. You should not rely on this presentation as the basis upon which to make an investment decision. Investment involves risk. There can be no assurance that investment objectives will be achieved. Investors must be prepared to bear the risk of a total loss of their investment. These risks are often heightened for investments in emerging/developing markets or smaller capital markets. International investing involves risks, including risks related to foreign currency, limited liquidity, less government regulation, and the possibility of substantial volatility due to adverse political, economic or other developments. The information provided herein is neither tax nor legal advice. Investors should speak to their tax professional for specific information regarding their tax situation.