We have produced the following ratings model to assess relative sovereign risk in Frontier Markets. A country’s score directly reflects its creditworthiness and underlying ability to service its external debt obligations. Each score is determined by a weighted compilation of fifteen economic and political indicators, which include external debt/GDP, short-term debt/reserves, import cover, current account/GDP, GDP growth, and budget balance. These scores translate into a BBH implied rating that is meant to reflect the accepted rating methodology used by the major agencies. We find that our model is very useful in predicting rating changes by the major agencies. The total number of Frontier Markets covered by our model is currently 39.
FRONTIER RATINGS SUMMARY
There have been 10 Frontier rating actions since our last update in May. There was 1 positive action and 9 negative, and the heavy negative skew continues what we have seen in recent years. For 2016 so far, positive actions represent only a 15% share of the total. Of the 52 actions taken in 2015, 18 were positive and 34 were negative, with positive representing a 35% share of the total. This followed an equally bad 2014, when there were 17 positive actions and 30 negative ones, with positive representing a 36% share of the total.
The ongoing deterioration in credit quality of the Frontier Markets largely reflects the negative impact from weak global growth and low commodity prices. Given that this trend is likely to continue for many commodities, we see continued downward pressure on many Frontier ratings in H2 2016. Of course, there will be divergences within Frontier Markets, just as we have seen divergences in the Emerging Markets.
Moody’s has been the most downbeat in 2016, providing 24 of the 44 negative actions. Since our last update, Moody’s moved the outlook for both Sri Lanka and Bolivia from stable to negative. It also downgraded Mozambique from Caa1 to Caa3 with negative outlook.
Fitch has been the most active since our last update. It cut Bahrain from BBB- to BB+ with a stable outlook, cut Mozambique from CCC to CC, cut Lebanon from B to B- with a stable outlook, cut Nigeria from BB- to B+ with stable outlook, and cut Bolivia from BB to BB- with stable outlook. Fitch was the only rating agency to make a positive move since our last update, upgrading Serbia from B+ to BB- with a stable outlook.
S&P made only one move since our last update. It cut Mozambique from B- to CCC with a negative outlook.
FRONTIER RATINGS OUTLOOK
We see persistent downgrade risk ahead, confirmed by the negative outlooks that are hanging over many of the ratings. Many Frontier countries are highly dependent on commodity prices and exports, and so the macro numbers are likely to deteriorate further as we move through H2 2016. Improving credit metrics for the commodity exporters will most likely be a 2017 story. Again, there will be some exceptions as divergences are likely to remain in play. For instance, the recent drop in oil is not carrying over to copper and iron ore.
Sri Lanka saw its implied rating rise a notch to BB/Ba2/BB, recouping the one notch drop seen last quarter. This suggests stronger upgrade potential for actual ratings of B+/B1/B+. Vietnam’s score worsened, but its implied rating remained steady at BBB-/Baa3/BBB-. We still see upgrade potential for actual ratings of BB-/B1/BB-.
Pakistan’s implied rating was steady at BB/Ba2/BB. There is still upgrade potential for actual ratings of B-/B3/B. Bangladesh’s implied rating rose a notch to BBB/Baa2/BBB, which suggests stronger upgrade potential to actual ratings of BB-/Ba3/BB-. Mongolia’s implied rating was steady at B/B2/B, which suggests that actual ratings of B/B2/B are on target.
Angola’s implied rating fell another notch to B/B2/B, putting it slightly below actual ratings of B/B1/B+. Mozambique’s implied rating also fell a notch to CCC+/Caa1/CCC+, putting it close to actual ratings of CCC/Caa3/CC. Nigeria’s implied rating also fell a notch to B+/B1/B+, lining up exactly with its actual ratings. Zambia entered our model universe last quarter with an implied rating of BB/Ba2/BB, but it worsened a notch to BB-/Ba3/BB- and moves it closer to actual ratings of B/B3/B.
Uganda’s implied rating improved a notch to BB/Ba2/BB, moving further above actual ratings of B/B1/B+. This suggests from rising upgrade potential.
Ghana’s implied rating was steady at B+/B1/B+ and compares to actual ratings of B-/B3/B. We see a very low upgrade potential. Kenya’s implied rating was also steady at B+/B1/B+, keeping it right at its actual ratings.
Cote d’Ivoire’s implied rating was steady at BBB/Baa2/BBB, suggesting upgrade potential for actual ratings of NR/Ba3/B+. Also steady was Mauritius, as its implied rating remained at BBB+/Baa1/BBB+. This suggests Moody’s Baa1 rating is on target. Tunisia’s implied rating was steady at BB-/Ba3/BB-, putting it right at its actual ratings.
The scores of Algeria, Namibia, and Tanzania worsened, but not by enough to change any of the implied ratings. On the other hand, Botswana’s score improved but not by enough to change its implied rating either.
Latin America and Caribbean
Argentina’s implied rating rose two notches to B+/B1/B+, recouping two straight quarters of losses. This suggests rising upgrade potential for actual ratings of B-/B3/B. El Salvador’s implied rating rose a notch to BB+/Ba1/BB+, suggesting rising upgrade potential for actual ratings of B+/Ba3/B+.
Trinidad & Tobago’s rating was steady at BBB+/Baa1/BBB+, suggesting some downgrade risk to S&P’s A- rating. Jamaica’s implied rating was also steady at BB-/Ba3/BB-, remaining well above actual ratings of B/Caa2/B. Costa Rica’s score and implied rating were steady at BBB/Baa2/BBB and still remains above actual ratings of BB-/Ba1/BB+. Guatemala’s implied rating was steady at BBB/Baa2/BBB, but still faces some upgrade potential to actual ratings of BB/Ba1/BB.
Bolivia’s implied rating fell another notch to BB+/Ba1/BB+, and moves it closer to actual ratings of BB/Ba3/BB-. The Dominican Republic saw its implied rating fall a notch to BBB-/Baa3/BBB-, and suggests diminishing upgrade potential for actual ratings of BB-/B1/B+.
Romania’s implied rating fell a notch for the second straight quarter to BBB-/Baa3/BBB-, which puts it right at its actual ratings. Ukraine’s implied rating remains in D territory. However, its score improved significantly and is on the cusp of moving into C territory.
Bulgaria’s implied rating was steady at BBB+/Baa1/BBB+, and still suggests upgrade potential for actual ratings of BB+/Baa2/BBB-. Kazakhstan’s implied rating was steady at BB/Ba2/BB, but there remains strong downgrade risk to its actual ratings of BBB-/Baa3/BBB. Serbia’s implied rating was steady at BB+/Ba1/BB+, but Croatia’s fell a notch BB/Ba2/BB.
The Gulf countries saw some stabilization after several quarters of deterioration. Saudi Arabia’s implied rating was steady at A-/A3/A-, Oman’s was steady at BBB+/Baa1/BBB+, and Bahrain’s was steady at BB-/Ba3/BB-. All three saw their scores worsen slightly, however. Kuwait’s implied rating fell a notch to BBB+/Baa1/BBB+.
Elsewhere in the Middle East region, Jordan’s implied rating was steady at BBB-/Baa3/BBB-, above actual ratings of BB-/B1/NR and still suggests strong upgrade potential. Lebanon saw its implied rating remain steady at CCC+/Caa1/CCC+, suggesting downgrade risks to actual ratings of B-/B2/B-.
It is clear that fundamentals are still worsening for many countries across the Frontier Markets universe. Much of this is being driven by slow global growth and low commodity prices. Yet the commodity importers will see some positive impact. We expect these trends to continue in H2 2016, and we believe that our model will help to identify the potential winners and the losers within this divergence theme.