By Anthony Harrington
In its "Global Economic Prospects" report for January 2013 the World Bank has some very interesting figures on the extent to which the hunt for yield in developed markets is opening up the capital markets to even the third tier of developing countries. One has to wonder, with the catastrophic consequences of the last major hunt for yield still vivid in the mind, if this is the start of another binge party that is going to end in tears.
As might be expected, a surge in appetite for developing country debt has the immediate effect of lowering the spread between developed market debt and developing market debt. According to the World Bank’s latest figures bond yield spreads for developing country debt are now 171 basis points lower than they were a year ago (there are 100 basis points in a percentage point) and they are 282 basis points lower than their average level for the decade from 2000 to 2010. At the same time the ratings agencies have been helping things along by upgrading developing country after developing country (as opposed to downgrading the economic “superpowers” like the US, France and the UK).
Gross capital flows to developing countries, which fell by 15.5% in the second quarter of 2012 amid Euro Area tensions, have rebounded sharply, reaching an estimated $170 billion in the fourth quarter of 2012, the highest level of inflows since the crisis began in August 2008.
Not surprisingly, all this money searching for a home has prompted a surge of new sovereign and corporate borrowers to come flooding into the corporate bond market.
"Angola and Zambia both issued international bonds for the first time ever in August and September, respectively. And Bolivia issued its first overseas bond in 90 years," the World Bank points out.
It also reveals that the governments of Kenya, Paraguay, Rwanda, Tanzania and Uganda, together with numerous companies based in developing countries, are looking to issue international bonds for the first time. By far the greater weight of issuance (around 2/3) is investment grade, the Bank says, so investors will feel that they are not taking that wild a punt. However, putting one's faith in the judgments by ratings agencies as to what does and does not constitute investment grade issuance looks a tad reckless after their mis rating of mortgage backed securities during the 2008 crash.
At the same time as the capital markets are getting involved, banks are showing an appetite for participating in syndicated loans to developing world borrowers. Some $62 billion was lent as syndicated international bank lending to these borrowers through the last quarter of 2012, creating a post-crisis high water mark. The World Bank points out that this increased appetite on the part of banks will be good news for central and eastern European countries such as Croatia, Bulgaria, Hungary, Romania, Serbia and the Ukraine, since their growth has been knocked back over the last year or two by slow credit growth.
For developed markets, on the other hand, the prospects, the World Bank says, are somber.
Industrial production declined sharply in Germany and in the United Kingdom in October (2012) and business sentiment indicators remain unusually weak. Despite indications of improving sentiment and order books, GDP is expected to decline further in the fourth quarter and into the first few months of 2013 before the continental economy begins expanding again. Overall, Euro Area GDP is estimated to have contracted 0.4% in 2012.
Japan is not doing very well either, with GDP falling at an annualized rate of 0.1% following the fading of the impetus the economy received from reconstruction spending in the aftermath of the Tohuku earthquake and nuclear disaster. The ongoing tensions with China over the Senkaku islands in the East China Sea have not helped either, since many Chinese citizens have taken to boycotting Japanese goods and China is a major trading partner. There is some glimmer of hope for a resolution in that China recently appointed a former ambassador to Japan, Wang Yi, as its foreign minister. Wang Yi is said to be fluent in Japanese and to have many high level contacts in the Japanese political establishment, though he has a history of talking tough over the islands, which China calls the Diaoyus.
The main point that arises from the continued economic weakness in advanced markets, as far as emerging market access to capital markets is concerned, is that the hunt for yield is likely to intensify as the "low for longer" monetary policy stance in advanced markets forces investors to look elsewhere for acceptable returns that are above inflation. We are either seeing the start of an interesting growth phase among third tier developing nations with newfound access to capital, or the early stages of a new disaster. However, as the World Bank points out, industrial production in developing countries continues to strengthen, which looks at least hopeful for those hunting both yield and sustainable investment. Time will tell.