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In central bank parlance the battle between “macro-precautionary” or “macroprudential” measures (such as capital controls and higher bank reserve-requirements) and more traditional interest rate tools may yet favor the old school. Barclays noted this week that at least “some EM policymakers appear to be waving the white flag in the currency wars” and as the FT’s beyondbrics noted today there’s no better example of such capitulation than Chile. There the peso just set a new high, since April 2008, versus the dollar, while inflation is expected to stay above the central bank’s 3 percent target “for some time”. The quandary of course is that rate hikes not only carry an economic cost but also attract “footloose foreign capital”–one primary reason why Brazil has attempted alternative measures. The Economist noted that one solution however may be to “welcome the inflows, let [currencies] rise where [they] will and . . . eliminate expansionary fiscal deficits”–both of which would theoretically ease price pressures and permit monetary easing–in kind tempering inflows. In Chile analysts expect another 50 point rise in May followed by consecutive 25 point hikes in June and July–leaving the key interest rate at 5.5 percent. At the same time, however, aggressive primary spending as a % of GDP is not helping the cause: while high copper prices turned a structural deficit into a 0.4% surplus last year, for instance, the number appreciably lagged the pre-crisis 8.8% level. In truth, this kind of stimulus should be saved until copper prices eventually do correct. For now, and likely through 2012 the state of the copper market is such that further peso appreciation beyond 450 may be inevitable as current account surpluses get fat–regardless of whether that means intervention selling or capital controls come back in vogue. Specifically analysts highlight that “miners are facing extreme challenges to growing output, including lower ore head grades, skilled labour shortages, equipment failures and long waiting times for new parts, all of which mean that mine supply will struggle to grow this year and is even in danger of contracting.” When this supply dynamic reverses, however, is when Chile’s central bank will really be put to the test.
Prime Minister Nguyen Tan Dung and the State Bank of Vietnam’s (SBV) vigilance in combating inflation will only intensify following recent word that consumer prices climbed 17.51 percent y/y in April–the fastest pace in 28 months. Moreover the rise was somewhat expected, per analysts with VinaCapital, given a 18-24% fuel price hike in late February; a 15.3% hike in power prices effective in March; pass-through from a weaker VND; and lagged impact of strong credit growth. Likewise, however, the SBV’s aggressive response since mid-February–a macro stabilization effort it labels “cautious and tight”–could see a delayed yet forceful impact that should allow nimble investors to strategically enter 5y CDS as well as sovereign credit beginning mid-year. Aside from finally explicitly eschewing growth in favor of price stability (a virtuous policy if there ever was one for emerging market leaders), PM Dung’s mandate has seen the SBV raise interest rates across the board–refinancing, discount and reverse-repo rates (the most vital to interbank rates and also the defacto rate at which the central bank lends money via the open market) sit at 13, 12 and 13 percent–though at least until inflation’s delta softens look for further tightening to 2008 levels when rates peaked at 13, 15 and 15 percent, respectively.
Curtailing credit growth (especially dollar related) is also a priority; the SBV announced earlier this month it would hike reserve ratios by 2 percentage points in May (to a range of 3-6 percent) to discourage the use of foreign currency in the banking system. Thus while ongoing inflation and liquidity concerns should keep bond prices pressured in the near-term, and cause CDS spreads to widen on further balance of payment and dong depreciation concerns, structural flows (FDI and remittances) remain robust and it appears that the government has finally committed itself to sending a clear and consistent signal about prioritizing economic stability over growth and stabilizing expectations (including a black market and gold trading clamp down). Inflation may yet spike up however, as fuel prices will likely need to rise even more given rampant smuggling into Cambodia. Ho Chi Minh Securities, for instance, gives a FY2011 CPI forecast now of 17.9% with an August y/y peak of 19.2%.
Despite boasting the largest fiscal surplus (~23% of GDP) of Gulf-based oil exporters (with a population of 2.8m it holds 7.6% of the world’s total proven reserves and currently does roughly 2.8m b/d in production which is fifth among OPEC members), Kuwait’s ongoing political rancor leaves it ever-dependent on energy (40% of GDP versus 27% for Saudi Arabia), delays reform and pointedly “sours the investment case” per Silk Invest CIO Daniel Broby, though given its surplus, socio-economic largesse (this spring the Ministry of Finance announced a one-time monetary payment, food and utility subsidies and salaries increases together worth roughly 6% of GDP, for instance) should be able to allay at least some tensions for quite some time. Yet it could also serve to perpetually hinder the defacto rivalry raging between the ruling family and “a fluid assembly dominated by loose blocs of Islamist and tribal deputies” that in effect leaves Kuwait “a lot less dynamic than ambitious Gulf neighbours such as Qatar, Dubai and Abu Dhabi, and less attractive to foreign investors.” Kuwait’s flagship index dropped 0.7 percent in 2010 and has dithered in 2011 as well–down 6.5% YTD, topped only by Egypt’s 30% plunge, and with space to flounder perhaps given it still boasts MENA’s second-highest trailing PE ratio. All this despite the fact that its state-run oil company is set to up production to 4m b/d within the next decade, assuming its impending deal with Exxon to help develop complicated fields near the northern border comes to fruition. On that latter note, however, the FT notes that hitherto “parliament has vociferously opposed any agreement with foreign companies.”
The interplay because geopolitics and equity markets–especially when it comes to relatively under capitalized and illiquid developing markets–has been well documented this year against the backdrop of MENA social unrest. But when it comes to trading sovereign debt the importance of insightful political stability and transparency analysis becomes almost as integral a facet to assessing risk premiums as are more conventional fiscal measures. Beyond Brics notes, for instance, the “strong recovery” in Ivory Coast ’32s which fell to 35 cents on the dollar during last month’s nadir and following a missed $29m interest payment at the beginning of the year but have since rallied to 54.6 cents. If only I could have had that crystal ball when a risk consultant back in December emailed me out of the blue asking for my prognosis. That said, while the bounce-back no doubt stems largely from Alassane Ouattara’s official ascent into power, social unrest remains problematic–especially since much of it hinges on the hitherto unresolved issue of land reform that also lies at the center of ensuring cash flows from cocoa–the economy’s lifeblood and thereby a bond holder’s best friend–remain stable. Aid money will help meet debt arrears as will forgiveness of nearly a quarter of debt outstanding, but a fractious constituency may remain fractured longer than expected and shouldn’t be discounted. Meanwhile, in similar fashion analysts with Barclays suggested taking profits on Nigeria’s 2021 Eurobond given its spread narrowing to date vis a vis the benchmark Ghana ’17s despite higher oil prices and improving fundamentals. The call may be prophetical given news of ‘orchestrated’ post-election violence, the country’s history of slumping oil production following elections in 1999, 2003 and 2007, and an uptick in seized, illegal arms shipments to Lagos. To that end, disruption to Nigeria’s light sweet crude output “would come as a double blow for refiners already scrambling to replace the loss from Libya,” per analysts.
Dubai’s recent securitization of Salik electronic toll road receipts–an “innovative funding strategy” designed to take advantage of the assets and cash flows that it has per Chavan Bhogaita, head of markets strategy with National Bank of Abu Dhabi–will secure $800m without tarnishing the emirate’s low income and corporate tax image according to a senior government official, though ironically it also comes against the backdrop of “a surge of public transport interest in the Gulf”. Yet while some $30 billion worth of loans and bonds–linked chiefly with state-linked enterprises–will mature over the course of the next year, look for the market’s appreciation for Dubai’s newfound fiscal pragmatism as well as the implied support of oil-rich Abu Dhabi to lag and in turn create opportunities in corporate debt. The emirate’s most recent budget, announced in January, cut spending initiatives roughly 5% to AED3.78 billion for 2011, or 1.1 percent of GDP. This coincides with improved macro fundamentals for the state as a whole due primarily to hydrocarbon-based growth which analysts see rising 4.6% y/y in the UAE with projected inflation remaining relatively mild at 2.5% y/y. Per Dubai specifically, “in the context of continuing turmoil in the MENA region [it] has behaved as a safe haven” according to analysts with Barclays, noting that contrary to contagion “a gradual revival in Dubai’s trade and tourism activity benefited from turmoil in Egypt and Tunisia and heightened political tension in Lebanon, [and] is likely to support growth towards 3.8% in 2011 . . . with risk to the upside as [it] could start to benefit from the delocalisation of businesses and households out of Bahrain in search for medium-term stability prospects.” With 5y CDS continuing to trend downwards from 2009, analysts also opine that “we would not rule out oil-rich Abu Dhabi supporting Dubai in meeting some of its refinancing needs in order to avoid negative headlines and confirm its solidarity with other emirates.” With this in mind J.P. Morgan just labeled DP World (the emirate’s once beleaguered ports operator) paper “cheap” after Moody’s made it “the first and only non-bank issuer from Dubai to regain the investment grade rating,” a move we’re not surprised by given our piece on DP World a few weeks ago vis a vis the strength of the container shipping industry in general against the backdrop of Dubai’s ever-central role in global trade.
Last month Lahore-based Fatima Fertilizer Company Limited (FFCL) appointed BNY Mellon depository bank for its OTC ADR program in which ordinary shares of the firm will ultimately be listed under the symbol “FTMFY”. Each Fatima ADR will represent 50 ordinary shares that have traded hitherto on all three stock exchanges (Karachi, Lahore and Islamabad) in Pakistan. “With over 22 million hectares under cultivation, agriculture is the mainstay of Pakistan’s economy, and Fatima Fertilizer is a significant step in attaining fertilizer self-sufficiency. As Fatima Fertilizer grows and expands, a key milestone in our goals is the creation of this ADR program,” commented CEO Fawad A. Mukhtar. “We will now be able to garner more international exposure and investment to continue to fund our future plans.” These plans to date have centered on completing a Mukhtar Garh, Sadiqabad-based fully integrated fertilizer complex “capable of producing two intermediate products–i.e. ammonia and nitric acid–and four final products, Nitro Phosphate (“NP”), Nitrogen Phosphorous Potassium (“NPK”), Calcium Ammonium Nitrate (“CAN”), and Urea that will produce a projected output of 2.2m metrics tons (MT) by the end of the year, making it the country’s largest compound fertilizer manufacturer.
It is interesting to note that even prior to last summer’s devastating floods the government explicitly addressed the need for more domestic production in order to relieve escalating import costs: as The Economist noted, “Pakistan’s fiscal troubles are antediluvian. It is one of the most lightly taxed countries in the world. Fewer than a quarter of the country’s firms declare any taxable revenues, and only 11 out of every 1,000 of its citizens pay tax on their incomes, according to the World Bank. As a result, tax revenues amount to a mere 10% of GDP.” Specifically, per one analysis, “total fertilizer demand in Pakistan is roughly 8.9m MT, of which nitrogenous fertilizers (Urea & CAN) account for ~78%, phosphatic and mixed fertilizers (DAP, NP and NPK) ~22%, while domestic production meets around 75% of current fertilizer demand (nitrogenous ~79%, phosphatic and complex ~40%). The shortfall is being met through imports.” As for the near-term outlook, Fatima looks set to capitalize on robust nitrogenous trends: analysts with Arif Habib, for instance, foresee Urea demand to reach 6.45m tons in 2011, a rise of 5.3% y/o/y (and compared with 4.917m in 2007 and 5.481 in 2008, for context) despite rising prices (up 37% y/o/y in part reflecting a 17% GST). Meanwhile, credit analysts with the state’s rating agency wrote last December that “the market response to Fatima Fertilizer’s trial production of CAN has been encouraging. CAN–with certain inherent advantages over traditional Urea–should be attractive to farmers, [though] they have a strong traditional association with Urea.” Meanwhile, Fatima’s NP may be set to make strong inroads on DAP use: “NP’s price affordability, nutrient mix and convenient availability [may] give it an edge over imported DAP, provided Fatima Fertilizer manages requisite infrastructure and runs affective campaign among the farmers community,” analysts note. To that, Arif Habib speculated a few weeks ago that “currently, retail DAP prices are hovering around 4,000 per bag. This could force farmers to use substitutes [such as NP and NPK] which are trading at discount of 1500/bag to DAP prices.”
The National Bank of Kazakhstan’s (NBK) recent monetary normalization–which upped the refinancing rate for the first time in eighteen months by 50 points to 7.5% in March, a move it will probably repeat in Q2 though when considering Kazakhstan always watch to first see what the Russians do)–along with hawkish comments from chairman Grigoriy Marchenko that “it could raise the full-year inflation forecast” for 2011 from the current 6-8% range, signal a fairly compelling case for further tenge (KZT) appreciation against the dollar (a trade expressed via NDFs) despite some $5.5.bn in intervention designed to offset foreign capital inflows tied to the country’s net oil exports of 1.5 mb/d that have pushed the 12m rolling current account balance well into surplus. While the NBK is mindful of rapid appreciation, said concern lies (rightfully) secondary in our view to inflation which, as myriad EM (like Russia!) bank governors worldwide can attest, may be one reason to let domestic currency purchasing power ascend. Consumer prices in Kazakhstan rose 7.8% last year, compared with 6.2% in 2009, on the back of food prices–which spiked following a poor summer grain harvest–recent fuel price increases, and strengthening consumer demand (retail sales jumped 12.3% last year as gains stemming from robust industrial production numbers–up 10%y/y– passed through to wages) underpinned in part by the state’s social programs. Aggressive intervention would only serve to exacerbate these inflationary trends, undermine the (recently re-elected) President’s mandated budgetary largesse from several months earlier and overall run contrary with the Balassa-Samuelson thesis. Finally, as some observers have noted KZT strength only encourages further de-dollarization, a necessary step in the IMF’s eyes towards achieving domestic capital market maturation.
Herein a few scattered links and stories from the past few days that I feel deserve attention:
- EM debt spreads continue to tighten against treasuries while the percentage of hard currency denominations declines. Trading volumes hit a new peak in 4Q10 and corporates in particular have benefitted, increasing their share of total issuance to $69 billion, “accounting for about three quarters, up from January to March 2010 when they sold $41 billion” in a sure sign of domestic capital market evolution and maturation in said economies. That said, to what degree will developed market monetary tightening mop up liquidity? Per Gramercy’s Robert Rauch from this weekend’s FT, for instance, “in the absence of QE3, QE4 or QE5, many borrowers in emerging markets do not have alternatives to bond markets and we could see another spate of restructurings.”
- As Saudi Arabia’s ever-incrasing social spending bill rises so do OPEC’s revenues (remember the demographics in play: sixty percent of the population (~25m) is under the age of 40 and forty-five percent is under 20; meanwhile analysts estimate that four million jobs will need to be added within the next decade to keep unemployment at ‘acceptable levels’). The growing break-even price needed by the Kingdom to balance its budget is all you need to know about where the price of oil is headed (see chart).
- As Laurent Gbagbo’s days increasingly appear numbered, cocoa prices have in turn tumbled in anticipation of the impending resumption of exports from the world’s largets supplier. That said the turnabout from speculators desparate to liquidiate is likely a bit rash in scope given that it will take time for local farmers to resume activity and in the meantime other producers such as Indonesia need higher prices to incentivize addressing the slack.
- Meanwhile a good ‘political arbitrage’ play to keep an eye on remains Randgold, which operates the Tongon mine in the Ivory Coast and whose shares are still down nearly 10 percent since the start of the year despite a fairly sanguine annual report which forecasts production increases moving forward.