This point may be obvious, but it's worth mentioning nonetheless: With a considerable number of developing countries running tighter fiscal policies, they aren't exactly issuing a whole lot of official (sovereign) debt. At the same time, the global commodity boom and generally elevated levels of economic activity have made firms in developing countries more keen on seeking debt financing. Although spreads on commercial papers have widened as of late, borrowing rates remain quite low by historical standards, making issuing debt quite a good proposition. The result is that corporate bond issuances outstripped sovereign issuances in the developing world in 2006 and will likely do so in 2007 as well. From the Economist:Who says sovereign debt is king? Firms in emerging markets have raised more than twice as much in international markets as have sovereign borrowers this year, a complete turnaround from just five years ago (see chart).The shift has struck even China, home to some of the biggest share issues ever in the past year. It has transferred authority over the issuance of corporate bonds to a more liberal regulator, the China Securities Regulatory Commission. This has issued draft rules allowing Chinese companies to sell bonds maturing in more than a year without issue-by-issue approval. That is expected to lead to a surge in bond offerings by cash-strapped companies, which until now have raised most of their financing through domestic bank loans.
If some of those bonds make it to international markets, it would fit a pattern that dates back to 2002. Since that time, global investors have increasingly turned to emerging-market debt as well as shares. Some noticed that after Argentina's default in 2001, corporate bonds bounced back faster than sovereign ones did. Governments, meanwhile, borrowed less as their fiscal positions improved and retired some of their outstanding bonds, which gave the edge to corporate issuance. Meanwhile, some companies, like Russia's biggest energy company, Gazprom, and India's ICICI Bank, are now rated by Moody's, a credit specialist, higher than their home-country governments. Investors, too, often see an advantage in betting on a country's most competitive industries, such as mining, rather than on the whole nation.
With all the liquidity have come laxer lending standards. According to a recent report by the World Bank, private lenders have granted borrowers more flexibility with loan covenants and demanded fewer third-party guarantees. Emerging-market bond spreads over American Treasuries have fallen from 859 basis points in June 2002 to 153 basis points on June 19th, even though rating agencies have been cautious about upgrading the borrowers.
Some argue that this is an unsustainable bubble—that reduced transparency and poorer governance among emerging-market issuers, as well as currency risks, are not reflected in the price. But champions of the emerging markets note that some issuers have explicit or implicit government support and that the biggest private-sector borrowers, including multinationals such as Mexico's Cemex, a cement company, have geographically diverse revenues. The World Bank also notes that, on average, emerging-market companies that tapped international markets were ten times larger in assets than their domestic rivals, giving them great strength at home.
Of most concern to creditors is global liquidity. When risk aversion mounts—as it surely will again at some point—emerging-market borrowers are usually quick to feel the effects.
During this month's Treasury-bond sell-off, emerging-market bonds held up well. However, if markets, or the economy, take a sharp turn for the worse, investors may not be so brave. In addition, lenders will have to ponder the legal difficulties of enforcing debt contracts in emerging markets. In some countries, such as Turkey and Mexico, the law is based on the French Napoleonic model where secured creditors may not collect as much as in common-law countries. Studies also find that the ability to secure repayment is closely correlated with other measures of public-sector health, such as the control of corruption and tax compliance. So government policy clearly matters. The sovereign still counts for something, after all.
