Monday, September 5, 2016

EM Sovereign Bond Issuance

FT captures the latest round of capital flight into emerging economies, 
A punishingly low yield environment for money managers has sparked a jump in demand for emerging market fixed debt in the past few months, as lack of inflation keeps interest rates in big economies on hold and prompts additional monetary easing from the European Central Bank, the Bank of Japan and the Bank of England. In the US, weak jobs data published on Friday have also pushed back expectations of the Federal Reserve raising interest rates this month, potentially removing a threat to the buoyancy of emerging market assets. Record inflows of funds have in turn pushed up emerging market bond prices, reducing borrowing costs down and spurring an increase in debt sales.
So far this year, they have issued bonds worth $90 bn, and it is estimated to top a record $125 bn in hard currencies like dollar and euro by end of the year.
The major drivers are Latin America fueled by Argentina's return and Middle East and Africa led by Saudi Arabia. These are also the areas most vulnerable to economic troubles when the capital flows cycle reverses, as it will. In contrast, debt issuance by emerging Asia and Europe has been declining. 

It highlights an interesting challenge. On the one hand, the most prudent EM economies exercise great restraint in accumulating debt. But on the other hand, at any given opportunity, the usual suspects leverage up excessively. The net result is that EM debt exposures of large funds rises during such episodes of capital flows into emerging markets, leaving EM assets as a category vulnerable to capital flow reversals. Contagion effects are inevitable on even the fiscally prudent economies. 

The fiscal prudence of governments in these economies, however, masks the rapid accumulation of external debt among non-financial corporates. It is this channel that becomes the primary source of spillovers as the sudden stops emerge. 

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