Latin America's Heavy Debt Load Could Spark More Unrest in 2022

(Bloomberg) -- Latin America looks set to take the reins next year as the developing world’s largest issuer of new debt, a step that according to some strategists could sow the seeds of future turmoil in the region.

Nations in the region are seen issuing around $38 billion in bonds in 2022, more than any other area in emerging markets. Overall issuance volume worldwide is likely to fall, but Latin America will slow less, strategists said. The region’s borrowing may spell future political and social trouble for the nations, said Nathalie Marshik, a managing director for fixed income at Stifel Nicolaus & Co. 

There are at least two drivers for Latin America’s expected pre-eminence in bond sales: states bordering the Persian Gulf, historically some of the biggest borrowers in emerging markets, have cut back on sales as oil prices rise. And Latin American governments are slow to cut their spending amid the pandemic, especially as the region prepares for upcoming elections in Chile, Colombia and Brazil, according to Sara Grut, a strategist at Goldman Sachs Group Inc. in London. These nations represent three of the top five economies in the region. 

Most of the selling next year will come from Latin America’s investment-grade nations, or markets that were recently downgraded from investment grade, Grut said. Investors are too risk averse at this stage to buy much junk debt, she added. 

“There are various political developments going on in investment grade, or former investment grade markets, that will drive 2022 issuance, and a lot of it has been related to fiscal expansion,” Grut said.  

Chile is expected to be the region’s highest issuer next year regardless of the outcome of its Dec. 19 elections, and will sell some $8 billion to help meet its $21 billion in external financing needs in 2022, according to Grut. Mexico is also seen selling around $6 billion in bonds, and Colombia’s elections in May could mean more spending next year, while Peru continues on an expansionary path, Grut said.

Rising U.S. Treasury yields, as well as extra funding in the form of special drawing rights from the International Monetary Fund, are expected to tamp down total debt sales in Latin America to about $36 billion in 2022 from around $57 billion this year, Citigroup Inc. strategist Donato Guarino wrote in a note. 

But there may be a downside to this borrowing. The region is rapidly hiking interest rates while still recovering from the pandemic, meaning the large supply of debt compared with the fiscal trends paint a worrisome picture, according to Stifel’s Marshik. Governments may have to cut back on spending, she said. 

“Balance sheets have deteriorated everywhere, populations are struggling, and poverty rates have gone up,” Marshik said. “There’s no real indication that there will be a jump in productivity to induce growth, and governments will struggle to implement painful adjustments.”

U.S. Federal Reserve rate hikes may also shut some emerging countries out of markets, Kenneth Rogoff, a Harvard University economics professor, said on Bloomberg TV on Wednesday. 

Cloudy Corporate Outlook

While many corporate issuers in Latin America have relatively healthy balance sheets after nearly two years of consolidating positions after the pandemic, 2022 could also prove turbulent for Latin American corporate issuers, especially in markets with divided political landscapes like Chile and Peru, according to Joe Bormann, a managing director for Latin America corporates at Fitch Ratings in New York.

“The outlook for Latin American corporates is partly cloudy due to high political and economic uncertainty,” Bormann said. “Most companies will head into the new year in a defensive posture, and social unrest could join inflation and rising interest rates as key variables that could be disruptive in the region.”

Some sectors may buck the trend, like the meat industry, which continues to fare well as demand from China remains strong. And mining will continue to benefit from the global green transition, as demand for metals used in green technology like copper and lithium increases. But high inflation and decreased consumer purchasing power threaten to complicate the outlook for the Latin American companies, Borman added.

ESG Push

BNP Paribas SA, one of the biggest underwriters of ESG-linked bonds, is bracing for a flurry of deals from the region next year, according to Anne van Riel, head of sustainable finance capital markets Americas at BNP. The bank is projecting $880 billion in global green bond sales, including $265 billion from emerging market in 2022.

“A number of LatAm issuers that have been sitting on the sidelines given the volatility in the last couple of weeks will be looking for a good window” in January, said van Riel in an interview.

Almost 40% of all Latin American issuance year-to-date had some kind of ESG flavor, which is a big number compared to other regions, said van Riel. Issuance this year was driven by sustainability-linked bonds and social bonds, including from sovereigns like Chile and Peru tapping into insatiable demand from ESG-friendly investors, she added.

Governments and corporations in Latin America alone have raised a record $42 billion in international debt deals tied to environmental, social and governance projects so far this year, according to data compiled by Bloomberg. That’s nearly four times the $11 billion issued all of last year. 

But as sustainable bond sales blossom in the region, some investors and analysts have raised questions about whether the securities are really green, or are more greenwashing. Labeled bonds, nonetheless, are still the “clearest communication tool that emerging markets have to attract capital for transition,” and green bonds are especially suited for issuers looking to demonstrate transparency in how they plan to use bond proceeds, said Trevor Allen, sustainable research analyst at BNP.

Elsewhere in credit markets:

Americas

Faster Federal Reserve tightening is a major risk for sanguine credit markets in 2022, according to UBS.

• U.S. junk bonds notched a second straight day of gains on Thursday even amid a broader risk-off tone
• Investors withdrew $1.26 billion of cash from funds that invest in U.S. investment-grade bonds for the week ended Dec. 15, marking the third straight week of outflows, according to Refinitiv Lipper
• Purdue Pharma LP’s multi-billion dollar opioid settlement was dealt a surprising blow on Thursday when a federal judge reversed a bankruptcy court’s earlier approval of the deal
• Intelsat SA, the satellite operator that has been in bankruptcy for more than 18 months, secured court approval for its restructuring plan
• For deal updates, click here for the New Issue Monitor
• For more, click here for the Credit Daybook Americas

EMEA

Sales of new bonds in Europe’s primary market reached about 1.62 trillion euros ($1.84 trillion) this year, according to data compiled by Bloomberg. That’s about 5% behind the 1.7 trillion euros sold in 2020, when issuers rushed to the market to bolster their balance sheets to navigate the pandemic.  

• KfW expects to issue bonds with a volume of up to 85 billion euros in 2022, the bulk as euro and U.S. dollar benchmark debt. It also expects to issue green bonds in large volumes and in different currencies for a total volume of at least 10 billion euros
• Lehman Brothers Holdings Inc., parent of the firm that went bankrupt during the 2008 financial crisis, is seeking to reverse a U.K. ruling that would cut recoveries for its creditors
• Telecom Italia SpA’s board is unlikely to make a decision on KKR & Co.’s 10.8 billion euros ($12.2 billion) takeover bid at a crucial meeting on Friday, according to people familiar with the matter

Asia

A jump Friday in dollar bonds of Chinese builders including Shimao Group Holdings Ltd. gave Asian credit a partial reprieve after a blowout in spreads this week.

• Shimao Group Holdings’s bonds rallied Friday on signs that financial authorities were coordinating negotiations between the company and some trust firms for loan extensions
• Shimao’s credit rating has been slashed to junk territory from investment grade by Fitch Ratings, making it a ‘fallen angel’ at the international risk assessor. That followed its long-term rating being downgraded deeper into junk by Moody’s Investors Service
• The Bank of Japan announced a slow walk of its withdrawal from emergency pandemic aid in a move that contrasts with the urgency of other major central banks winding back stimulus
• South Korea is among the world’s biggest seller of green bonds, and one of its top issuers, the Export-Import Bank of Korea, is planning to tap the global debt market more aggressively next year to provide sustainable funds to local companies operating abroad

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