Ring out the old, ring in the new.
Since it erupted in 2007, the global financial crisis has upended many notions about creditworthiness as many securities once deemed virtually risk-free have proved to be anything but. Now the same phenomenon is taking place with sovereign states.
Many countries in Western Europe, a region that traditionally has been home to some of the soundest credits on the planet, have seen their standing plummet over the past year because of burgeoning debt problems. At the same time emerging-markets countries, many of which were synonymous with crisis a decade or two ago, have been dramatically upgraded in the eyes of investors. The result is one of the biggest shifts in country credit rankings since Institutional Investor began surveying investor opinion 32 years ago.
“There’s a lot of talk out there that the emerging markets are now the safe haven, given what’s going on in the first world,” says Seng Liew, who trades emerging-markets debt at MacKay Shields, a money management arm of New York Life Insurance Co.
Western Europe is the only region to suffer an overall decline in its creditworthiness rating over the past year, not surprising given Greece’s recent debt crisis and the fallout in Ireland, Italy, Portugal and Spain, which prompted euro area members to establish an unprecedented €750 billion ($958 billion) bailout facility in conjunction with the International Monetary Fund.
European countries post six of the ten biggest declines in credit ratings, and those losses are immense: Greece leads the retreat, falling a whopping 31 points, to 43.9, on a scale of zero to 100. Other heavily indebted European Union countries also show huge declines, with Portugal falling 17.9 points, Spain dropping 14.9 points, Ireland down 12.5 points and Italy off by 8.1 points. Most other EU countries fare only slightly better: Belgium is down 5.8 points, the U.K. is off by 5.3 points, France is down 4.6 points and Denmark is off by 3.8 points. Fifteen countries in Western Europe fall by 1 point or more, the amount considered statistically significant. Moreover, respondents name Spain, Greece and Portugal as the countries most likely to see a rise in credit risk in the next 12 months, followed by the U.K. and Venezuela.
In contrast to the woes of the Old World, many emerging-markets countries post strong gains, a reflection of their perceived sound public finances and vibrant economies. Consider the so-called BRIC countries. Brazil jumps 4.5 points, Russia gains 3.2 points, India is up 2.4 points, and China advances 4.4 points.
The divergent fortunes of the developed and emerging worlds produce some startling contrasts. Mexico, where the Latin debt crisis erupted back in 1982, rises four places, to No. 42, in our ranking, in the process leapfrogging its former colonial master, Spain, which plunges 23 places, to No. 44. Similarly, Brazil, which was receiving IMF assistance as recently as 2003, rises six places, to No. 41, in our ranking, ahead of Portugal, which plummets 27 places, to No. 49.
Greece, which tumbles 45 places, to No. 81, now finds itself well behind Turkey, which rises five places, to No. 62. Interestingly, Turkey, which is making little headway in its campaign to gain entry to the European Union, now ranks ahead of five EU members: Bulgaria, Lithuania, Romania, Latvia and Greece.
The biggest anomaly in the developed world is the U.S., which sees its rating rise by 1.8 points and jumps five places in the ranking, to No. 6, just behind Germany. What about the country’s enormous budget deficit — which exceeds those of most EU countries, as a percentage of GDP — and its nearly double-digit unemployment rate? For now, investors are more worried about problems elsewhere. “It’s a safe haven,” says John Krijgsman, who heads Toronto-based risk consulting firm Krijgsman & Associates. Greece’s debt woes have tarnished the euro’s standing as an alternative reserve currency. Political stalemate, an aging population and a truly massive debt burden have hammered Japan’s credit rating (down 6.5 points). Talk of the renminbi as a freely traded global reserve currency remains just that. So the U.S. is still the landing strip of choice for every flight to quality.
Overall, the average credit rating of the 178 countries covered by the survey rises by half a point, to 46.2. But it’s the variation, not the average, that tells the real story. Countries across the developing world show impressive gains even as most of the developed nations suffer declines.
Among the 24 emerging-markets countries in Asia-Pacific/South & East Asia, 17 rise by 1 point or more. In Latin America/Caribbean, 14 of the 29 countries enjoy similar increases; in sub-Saharan Africa fully 30 countries do so. Even Eastern Europe/Central Asia, with its close trade and political links with Western Europe, sees many more gains than losses.
What drives such broad-based increases? In the past many risk analysts marked down the emerging-markets countries at the first sign of a global slowdown. Now they’re reconsidering. “The markets have realized that there is more resilience in many of these countries,” says Rolf Danielsen, Stockholm-based head of emerging-markets research at Skandinaviska Enskilda Banken.
The results also reflect specific developments in several important developing markets. One factor is the China effect. Countries that are major suppliers to the Chinese economic dynamo post major advances, with Indonesia gaining 6.1 points, Malaysia rising 4.4 points and the Philippines up 2.8 points.
Investors also express growing confidence in the public policies of many emerging-markets countries. That’s certainly the case for Brazil, which respondents deem the country most likely to see its rating increase in the coming year. One voter lauds the continuity provided by the “market-friendly policies of the Lula government.” Such confidence is striking just ahead of Brazil’s presidential election next month. Eight years ago fears of a leftward tilt in policy depressed Brazil’s markets before the election of President Luiz Inácio Lula da Silva.
The increase in confidence extends to Africa. “In general, economic policy is getting better in Africa, and politics are getting better,” says Carl Ross, managing director–investments at Oppenheimer & Co. “The countries are benefiting from an inflow of FDI [foreign direct investment] into mining and other industries. A growth model is emerging.”
Elsewhere, Kazakhstan and Russia join the rebound in Eastern Europe/Central Asia, with gains of 4.2 and 3.2 points, respectively. “There were great fears about the debt repayment of big enterprises, but the Russian state has bailed them out, and the harsh recession of last year has been overcome,” says Ulrich Rathfelder, a country-risk analyst at Landesbank Hessen-Thüringen in Frankfurt. Russia’s return to the Eurobond market in April with a $5.5 billion offering — its first international borrowing since the government’s 1998 default — underscored the growing confidence.
Kazakhstan’s gain is somewhat surprising, Rathfelder says. “Two banks canceled their debt payments, so there were some losses at Western banks,” he notes. “But stable oil prices, combined with more stability in other parts of the economy, have raised the rating.”
The Middle East & North Africa region continues to march to a different drummer. Firm oil prices help boost the ratings of most of the region’s big producers, with Qatar gaining 2.8 points, Oman up 2.5 points and Kuwait and Saudi Arabia each rising 1.9 points. Dubai’s debt crisis and restructuring has hammered the rating of the United Arab Emirates, though; it plunges 5.5 points. Bahrain, however, sees its rating shoot up 9.5 points, the largest gain of any country. SEB’s Danielsen says the country’s banking system had less exposure to Dubai’s debt problems than originally feared.
Can emerging markets continue to lead the way in improving creditworthiness? Some analysts have their doubts. Oppenheimer’s Ross says the average rating may be at “a high point” and worries that the U.S. recovery may fade. “I don’t think Asia is going to be able to pull the global economy out,” he says.
