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Ecuador | High beta status
admin | February 21, 2020
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.
Ecuador has turned in one of the worst performances in EM this year, only outperforming Lebanon. Some analysts chalk this up to concerns about economic reform and the Moody’s downgrade, but crowded long positions and illiquid secondary trading unable to take heavy selling looks like the better explanation. Ecuador has become a benchmark name but with low ‘B’ credit ratings. This exaggerates Ecuador’s beta with obvious correlation to Ecuador Eurobonds and other EM risk assets like CLP, COP and MSCI. Ecuador’s bond prices have not recovered on the recent bounce in oil prices, which had been the only definitive fundamental rational for recent weakness. If external risk stabilizes, then potentially positive developments on asset monetization and economic reform could lift the name over the next few weeks.
Ecuador Eurobonds and other risky assets have traded with high correlation over the past few months after Ecuador recovered from a political setback on the omnibus bill in October 2019. Risk-on sentiment made Ecuador one of the best performers earlier this year, but that unraveled as the coronavirus triggered risk-off over the past weeks. There hasn’t been a positive endogenous shock to immunize against this external contagion. Instead the market has focused on rollover risk based on restricted market access and disruption to the secondary curve after the issuance of the $400 million social bond.
It’s clear that there is no room for any additional Eurobond issuance. A small structured deal had a disproportionate impact on the secondary curve, and the market seems constantly concerned about surprise new issuance and increasing supply risk. The latest Economy Ministry investor call provided reassurance that 2020 funding could rely on multilateral funds and domestic capital markets with no need for capital markets funding. The economic team needs to continue the fiscal adjustment financed via the official creditor community while also building capacity in their local capital markets.
The IMF was on a mission to conduct the fourth review last week, using flexible criteria that should lead to the next disbursement next month. There is also potential for positive surprise from a partial elimination of fuel subsidies, and the next few months also open a window of opportunity for economic reform ahead of a more intense election cycle in late 2020. There have been consistent consultations to socialize and build broader acceptance for the reduction in fuel subsidies, perhaps first tackling the less controversial gasoline subsidies. The legislature is also slated to consider fast track economic reform with COPLAFYP in mid-March as well as the COMYF bill in April. This should provide an opportunity to test coalition support after the recent noise about the departure of CREO. These reforms are not controversial, and the Moreno administration has been careful to pre-negotiate support similar to the successful approval of the tax reform.
The latest investor call last week didn’t reassure investors. Ecuador has still lagged the latest bounce in oil prices. It’s notable that the EM risky assets have lagged the past few days despite consolidation in broader external risk. Recent heightened EM volatility perhaps is a deterrent. Positive as opposed to negative headlines should have more impact on prices after the cumulative weakness of the past three weeks and ahead of potentially positive event news on economic reform. Ecuador’s fundamentals still look broadly stable with current levels oversold and more sensitive to potentially positive domestic events as long as external risk remains supportive.
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