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Capital Markets Weekly: Argentine Primary election vote triggers market shock, new sovereign-default fears

16 August 2019 Brian Lawson

Argentina

Markets reacted violently against Argentine risk after its first-round primaries suggested that President Macri would lose outright in the first round to the Peronist opposition.

  • On 12 August, the Argentine peso briefly reached ARS65/USD, a 30.3% drop, before recovering after intervention to close at ARS57.30, a 23.1% decline on the day.
  • Argentina's EMBI+ spread index rose from 877 basis points over Treasuries at the close on 9 August to 1467 basis points, a 68.2% move (and the widest margin in 10 years), peaking later in the week at 1957 b.p.
  • According to IHS Markit data, the cost of hedging Argentine debt through credit default swaps jumped from 10.17% per annum to 19.55%.
  • Argentina's outstanding 2028 issue fell from 77% of nominal value to 59% while its outstanding century bond dropped 17 percentage points to 56.4%. 2021 debt spiked to yields of around 38%, implying market expectations of debt distress and write-down.
  • Share prices suffered similar shock reactions, with the Merval index dropping by 37.9%, and Argentine shares quoted on Wall Street falling 58.9%. The Merval index thus wiped out in a single day prior gains of around 30% made during 2019.

The global EMBI+ index was duly affected: it widened on 12 August from 385 to 434 basis points, a 12.3% change, reaching a peak of 454 basis points later in the week.

Other debt

The severe volatility in Emerging Markets did not block the high-grade calendar, which remained active. On 12 August, BMW raised USD2 billion in a four-part sale spanning maturities from three to ten years. It was followed by Daimler AG, which raised USD4 billion in a further four-tranche sale, 30-year debt sales by Sherwin Williams and Westar Energy and long ten-year bonds for UBS and Lincoln National.

On 12 August, US healthcare provider Tenet Healthcare Corporation announced a USD4.2 billion three-part secured private placement, one of the largest junk-bond sales this year. It sold US2.1 billion of January 2026 bonds at 4.875%, USD1.5 billion of November 2027 debt at 5.125%, and USD600 million for five years at 4.625%. Proceeds will repurchase of four outstanding bonds, also worth a nominal USD4.2 billion, due in 2020 and 2021.

On 13 August, AAA-rated Exxon Mobil sold a rare, seven-part USD7 billion issue. This represented its first debt issuance since 2016. Also in the market was UPS with a three-part deal designed to fund the company's pension liabilities.

The Free Hanseatic City of Bremen (a German Federal state) sold 30-year debt. It placed EUR750 million of 2019 bonds at 0.448%, in line with price guidance of 18 basis points over mid-swaps. Demand reached EUR840 million. As with Schleswig Holstein's 20-year deal last week, Bremen extended its borrowing curve by a decade.

Equity

GE has completed a sizeable (USD1.6 billion) secondary sale of shares in Wabtec Corporation, a rail locomotive and parts manufacturer. On 7 August it announced that it had placed 20.485 million shares at USD72.5 each, with a green-shoe of a further 2.048 million shares.

China's CGN Power is progressing an RBM12.6 billion (USD1.8 billion) listing of A shares. Media reports claim this is heavily-backed by strategic cornerstone investors, and the retail tranche was reportedly over 400-times subscribed.

WeWork has filed its preliminary prospectus for its pending IPO, suggesting that this could be launched as soon as September.

Implications and outlook

Argentine price developments clearly indicate the market's severe lack of trust in the country's Peronist opposition, involved in the 2014 default on Argentina's international liabilities.

Although primary results were reversed in 2015, our Country Risk service assesses that the primary t poll is an important, generally-accurate indicator of the likely outcome of this October's general election. Reversal of the 15% gap between Alberto Fernández and Macri appears highly unlikely and the results also suggest likelihood of the elections being decided in the first round.

Our assessment is that a Fernández-led government, which would take office in December 2019, would be inclined to implement more state-interventionist economic policies. However, given Argentina's extremely fragile credit position, Fernández is likely to try to maintain the current stand-by-arrangement (SBA) with the IMF, requiring the new government to retain at least part of Macri's tight fiscal stance.

Initially, Fernández is likely to seek renegotiation of the IMF deal to loosen fiscal targets, but not to withdraw from it outright. Fernandez's main difficulty is his association with a political party severely distrusted by the private sector and foreign creditors. If elected, the choice of Fernández' key economic advisor will be an important indicator of his future economic policy direction.

Some of this week's price collapse in Argentine debt may represent potential overshoot, reflecting a temporary market imbalance with major investors selling simultaneously. However, Peso weakness will hinder efforts to control inflation, while political concerns and higher interest rates will dampen investment and business spending, further softening economic fundamentals. A softer currency also increases the Peso burden of dollar-denominated borrowings, hindering debt sustainability.

In addition to seeking more fiscal leeway, an IMF renegotiation would be likely to seek softer debt service burdens through an extension of Argentine official liabilities. A key factor is likely to be the degree of policy shift: any rapid move to reverse the policy changes of the Macri administration would indicate greater risk of future Argentine default.

So far, while a dampener for Emerging Market performance, Argentine volatility has not led to signs of major instability elsewhere in the asset class. Turkey remains another likely focus area for the markets, but in August it has outperformed the wider EMBI+ index despite the recent 4.25% cut in its policy rate.

The assessment of Argentina's political environment was produced by Carla Selman of our Country Risk team.

Posted 16 August 2019 by Brian Lawson, Senior Economic and Financial Consultant, Country Risk, IHS Markit

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