International bond activity by Latin American and Caribbean issuers slowed in the third quarter, amid a deterioration in global capital market conditions. Although the still-high levels of liquidity in global financial markets supported the region's bond activity, investor sentiment was impaired in the third quarter by rising-although still moderate-uncertainty about the international economy in general and Latin America in particular, as well as some adverse geopolitical events. The expectation that the Federal Reserve (the Fed, the US central bank) will begin to lift its Fed Funds policy interest rate sooner than anticipated weighed on the markets, particularly in September, when there was a shift into safer, long-term US-dollar assets, hitting Latin American currencies and securities.
According to data from Dealogic (a UK-based financial market information provider), the value of international bonds sold by the region's governments and corporations in July-September amounted to US$28.2bn, its lowest level for a third quarter since 2011. Despite the softer Q3 performance, the total value of international bonds issued by the region reached a record of US$117.7bn in the first nine months (19% more than in the same period in 2013), setting up 2014 to be another record year for this type of transaction.
Some risk-averse bondholders have been deterred from investing in the region by renewed fears of the impact that it may suffer from a higher than anticipated slowdown of the Chinese economy. In fact, Latin America's gloomier GDP growth outlook has dulled the investor exuberance that the region has enjoyed in recent years-The Economist Intelligence Unit now estimates regional growth of just 1.5% in 2014, with a moderate pick up in 2015, depending on a forecast upturn in the Mexican economy. Last, but not least, the fact that some Latin American issuers had already completed their external funding targets in the first half of the year also explains the region's slower bond activity in the third quarter.
Sovereign bonds take the lead
In terms of the profile of issuers, there was little diversification in the international bonds originated in Latin America in July-September. As in the previous quarter, more than 60% of total transaction volumes came from sovereigns, financial institutions, and oil and gas companies. At US$9.26bn, deals issued by sovereigns accounted for 33% of the total and rose by 3% on a quarter-on-quarter basis. This was partly driven by the US$3.55bn bond placed in late July by Brazil, with a 31-year maturity and 5% coupon. This transaction was the largest by any of the region's issuers in the quarter.
Investors retained their appetite for Brazilian assets, despite concerns about the outcome of the presidential election and the country's economic outlook. Investors are concerned that the re-election of the president, Dilma Rousseff (still the most likely result in what has become a very close race), will lead to another four years of poor economic performance. If Ms Rousseff is re-elected and fails to strengthen the public finances, low growth and fiscal laxity could well cost Brazil its investment grade rating. Even so, the Brazilian sovereign was able to retap the market in the midst of the electoral campaign by successfully placing a US$1.05bn bond in early September, maturing in 10.3 years and offering a 4.25% coupon.
Demand for the region's sovereign notes also extended to Panama, which in mid-September raised US$1.25bn, due in 2024 at a 4% coupon, in what constituted the country's largest bond in four years, despite revelations of the extent of fiscal slippage in the first half of the year by the outgoing government of Ricardo Martinelli (2010-14). Paraguay also tapped the market in early August with relative success, as it was able to sell US$1bn bonds maturing in 30 years with a 6.1% coupon, despite the country's "speculative-investment" risk category. In mid-September El Salvador issued US$800m in 12-year bonds with a yield of 6.375%.
Active issuers in Mexico and elsewhere
Deals originated in Mexico gained some dynamism on the back of the activity of Petróleos Mexicanos (Pemex, the state-owned oil company) among others. This company leveraged on the precedents set in the first half by other Mexican issuers, and in early September launched a peso-denominated deal equivalent to US$1.39bn, due in 2024 with a 7.19% coupon. Another large Mexican bond was launched around the same time by Cemex, a cement company, for US$1.63bn, of which US$1.1bn was denominated in US dollars (with 10.3-year maturity and 5.7% coupon) and the remainder in euros (due in 7.3 years and paying a 4.75% interest rate). Mexichem, a large petrochemical corporation, also tapped the market in mid-September through a US$750m deal due in 2044, and offered at a 5.875% coupon.
Although Brazil and Mexico continued to account for the vast share of deals originated in the region, other issuers in Colombia, Chile and Peru were also active in Q3. This includes deals by Ecopetrol (the oil company controlled by the Colombian government), which sold US$1.2bn with a maturity of 10.3 years and a 4.125% coupon, Codelco (the government-controlled Chilean copper producer), issuing EUR600m due in 2024 with a 2.25% coupon, and Cofide (a Peruvian state-owned development bank) selling US$300m due in 2019 with a 3.25% coupon.
Reasons for cautious optimism
The Economist Intelligence Unit continues to expect that, barring a shock in world financial markets, Latin American borrowers will retain fairly good access to the international bond markets in the last quarter of 2014. This prospect is likely to make 2014 as a whole yet another record year for bonds issued by the region overseas. Nonetheless, market volatility will remain high as investors remain wary about geopolitical events (including the ongoing tensions in the Middle East and the Russia-Ukraine crisis), as well as developments in the world economy. Likewise, borrowing costs for the region (and other emerging markets for that matter) will continue rising as the Fed ends its third quantitative easing (QE3) programme in the short term, and it is likely to increase its main interest rate by mid-2015. However, global liquidity conditions will be supported by the monetary stimulus from the central banks in the EU and Asia in their efforts to boost economic growth and avoid deflation in their respective countries.