Ashmore’s Dehn comments Kenya’s entrance in the global capital markets

Jan Dehn, head of Research at Ashmore discusses Kenya becoming the 62nd member of the Emerging Markets (EM) external debt asset class and puts the recent upside economic surprises in Colombia and Mexico into the context of future tighter global financial conditions.

Kenya
Karibu (Welcome) Kenya! In the past week Kenya’s government formally joined the global capital markets by issuing two benchmark sovereign dollar denominated bonds with 2019 and 2024 maturities and yields of 5.44% and 6.5% respectively.

Kenya will most likely enter the JP Morgan benchmark index within the next couple of months to become the 62nd member of the index. There were 26 EM sovereign bond issuers 10 years ago.

There are now about three times more EM issuers of sovereign bonds than there are developed economies in the world.

The EM fixed income asset class offers exposure to a very diverse set of issuers that on average have less than half the level of debt of developed economies and much higher yields. We expect the number of EM issuers to continue to rise, especially from frontier economies.

Even so, the many differences between EM countries will become more pronounced and one of the most important determinants of future success will prove to be past reforms. Colombia today offers a good example of what the winners of tomorrow may look like.

This past week Colombia released first quarter GDP numbers that showed the country growing 6.4% yoy, well beyond the consensus expectation of 5.2% yoy. Newly re-elected President, Juan Manuel Santos, implemented sweeping economic reforms in his first term.

The effect of these reforms has been to raise the rate at which Colombia can grow without bumping into supply-side constraints, that is, the sustainable trend growth rate has risen. Even so, Colombia’s central bank sensibly (and in line with expectations) raised benchmark interest rates by 25bps to 4% last week.

Many other countries in EM have, like the Colombians, understood that the key to sustainable growth going forward is to improve productivity. We believe they could be the winners of tomorrow.

Mexico
Another country destined for success is Mexico. Like Colombia, Mexico recently undertook deep economic reforms. Despite an initially sluggish response of the economy to the reforms, there are now signs that the Mexican economy is beginning to expand (as we reported in last week’s research).

This week Mexico’s retail sales numbers significantly beat expectations. The consensus was for a seasonally adjusted contraction of 1.3% mom, but instead there was an expansion of 1.3% mom. The turnaround in retail sales began last month.

Mexico’s economy has considerable slack, partly due to a protracted cyclical downturn, but most importantly because the recent reforms will enable the economy to grow even faster without running into supply-side constraints. This bodes well for Mexico – the combination of stronger growth and well-contained inflation is an attractive one.

Brazil
In Brazil, the latest polls ahead of October’s presidential election show President Dilma Rousseff’s approval rating stabilising. The CNI/Ibope poll shows that 44% of Brazilians approve of Dilma’s government and that 39% of potential voters would support her.

This compares to 21% for Aecio Neves, her nearest challenger. These ratings imply that Dilma has gained 2% against Neves compared to the previous poll.

Argentina
Turning to Argentina, the US Supreme Court last week refused to review a ruling by the New York 2nd District Court that requires Argentina to pay holdout investors from the 2001 default before servicing performing bonds issued under New York Law.

In our view, Argentina’s case is unique within EM as no other countries find themselves in a similar predicament with the New York courts. As such, the outcome of this case should not have direct implications for other EM countries.

The main indirect implication, however, could be that EM issuers become less inclined to issue under New York law. After all, the 2nd District Court’s ruling implies that small numbers of holdout investors can potentially derail workouts in the event of restructurings.

Avoiding issuing under New York law would only accelerate an already strong existing trend within EM. Nearly 90% of all EM fixed income is already under local law and the percentage is only likely to rise further in our view.

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