The Big Idea

Latin America | About valuations

| July 15, 2022

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.

The most sensitive credits typically start to decouple from external risks once valuations reach recovery value. Valuations now below historic 30% recovery value across the high yielders almost look like a capitulation trade. There is a disconnect between fundamentals and valuations. Latin America stands apart from other similarly rated emerging markets credits, showing the lowest cash prices. These dislocations should persist until country liquidity improves or overall external risk stabilizes. Despite the uncertainty, it is tough to be bearish medium-term with valuations already discounting the worst case for the high yielders. Coupon payments alone start to offer a significant cushion for El Salvador and Argentina as long as default is not imminent.

Argentina and El Salvador’s sovereign debt now trades below 30% historic recovery value with Ecuador not far behind.  These prices assume worst case scenarios of a of high probability of default, historic low recovery value and no or low valuations on coupon payments. This pessimism is unusual considering the restructured low coupons in Argentina and Ecuador and only near-term coupon payments in El Salvador after the litmus test of El Salvador’s January 2023 amortization.

There is a strong near-term “willingness to pay” for various reasons across these countries.  For Argentina’s Fernandez administration, the standard approach with creditors has been to postpone payments to the next administration, whether the payments are going to bondholders, the IMF or the Paris Club. The restructured coupons do not suggest a financing burden, although the Fernandez administration would be reluctant to admit policy failure as the administration restructured the debt in 2020.

Ecuador’s Lasso administration would also be highly reluctant to default on low coupons. Ecuador has put a priority on investor relations to attract foreign direct investment and avoid a backlash of economic crisis. Ecuador is also unique for its stronger fiscal finances, results of an oil windfall and strong IMF relations as a lender of last resort.

El Salvador is also soon to test its willingness to pay ahead of an $800 million Eurobond amortization in January. El Salvador has committed repeatedly to honoring Eurobond payments, notable for an administration that’s reluctant to admit policy failure and seeks international prestige as a global Bitcoin financial center. The still high 73 dirty cash price of the ELSALV’2023 reflects near 50/50 probability of payment/nonpayment, based on 30% recovery value/107 payment.

If El Salvador honors the January 2023 Eurobond amortization, then the next amortization hurdle is not until January 2025, with average 13.5 points of coupons contributing a significant portion of breakeven returns on recovery value against current prices around 25. For Argentina and Ecuador, it would require extreme scenarios for either country to default under the current administrations, especially with low pending Eurobond payments a priority. The higher coupons for ARGENT’38 and ARGENT’41 at 3.875% and 3.50% offer a significant buffer on breakeven returns against low cash prices of 25 and 23, especially if a restructuring postpones beyond 2023 with the ARGENT’35 coupons also stepping up in 2024.

Each credit involvew a unique discussion of recovery value, and it is too early to discuss El Salvador and Ecuador.  There is no context for recovery value analysis when the medium-term economic program remains undefined, each country balancing policy adjustment and debt relief. The IMF has made its recommendations of a 4% GDP cumulative fiscal adjustment, but the Bukele administration has yet to commit or propose a viable alternative. Bond prices around 25 not only assume historic low recovery value but also discount any prospects of 7 points of annual coupon payments. There has been no investor support at distressed bond prices, with extra coupons insufficient motivation without commitment to a medium-term plan for debt sustainability. This may change after the January 2023 payment. There is still latent optimism for Ecuador under the orthodoxy of the Lasso administration and high oil prices.  However, the political and policy risk premiums remain high without broad commitment among the political establishment and broader society to investment-led growth and fiscal discipline. The burden for the Lasso administration is to manage social and economic pressures and attract FDI for higher trend growth in strategic sectors over the next three years. That is a necessary model for debt sustainability and a smooth political transition.

There are a few core assumptions that allow for early estimates of recovery value in Argentina. The renewed commitment to an IMF program under the Fernandez administration reaffirms a structural shift towards policy moderation and a marginalization of Kirchnerismo radicalism.  This should reassure investors for a few reasons

  • Equitable burden sharing under economic policy moderation, and
  • Reasonable exit yields post political transition in 2024.

The formula would argue for liquidity over solvency relief and reasonable, say, 12% exit yields assuming a moderate political transition, leading to recovery value in the mid-40s. The current bond prices below 20 reflect worst-case scenarios of a severe economic crisis that undermines liquidity and solvency ratios and requires another round of relief from bondholders. This is not yet the scenario after Argentina’s reaffirmation of the IMF anchor and commitment to policy moderation after a leadership change in the economic team. Argentina valuations offer the most attractive risk and reward among the high yielders on not only the breakeven returns of step-up coupons and low cash bond prices but a continuing base case view of reasonable recovery value after political transition.

Siobhan Morden
Santander Investment Securities
1 (212) 692-2539
siobhan.morden@santander.us

 


U.S. Fixed Income Trading Commentary Disclaimer

This commentary has been prepared by the U.S. fixed income trading desk of Santander Investment Securities Inc. (together with its affiliates, “Santander”) for its institutional investor clients only, and may under no circumstances be redistributed beyond the recipient in whole or in part.  The recipient is an “institutional account” as defined in FINRA Rule 4512(c) that (i) is capable of evaluating investment risks independently, both in general and with regard to particular transactions and investment strategies and (ii) will exercise independent judgment in evaluating any potential investments and any recommendations of any broker-dealers.  For the avoidance of doubt, this commentary is not suitable for or intended for retail investors. 

This commentary has not been produced or reviewed by, and does not otherwise reflect the views or input of, the Research Department of Santander (“Santander Research”).  This commentary may conflict with the views of Santander Research, is not subject to all of the independence and disclosure standards applicable to research reports prepared for retail investors and is not independent from the interests of Santander.  Santander may have positions (long or short) in, effect transactions in or make markets in the subject securities (or related derivatives) mentioned in this commentary, and such positions or trading may be inconsistent with this commentary.  However, Santander is under no obligation to make a market in or otherwise provide liquidity in any security discussed herein.  This material may have been previously communicated to Santander’s trading desk.  Santander may have in the past or may in the future provide investment banking services (including underwriting activity and loans) or other services for the companies mentioned in this commentary.

This commentary has been provided for informational purposes only and is not a recommendation, offer or solicitation for the purchase or sale of any security or related instrument.  This communication is intended to be short term and brief in nature, and therefore does not provide a full analysis of any issuer or security or a sufficient basis upon which to base an investment decision.  The individual circumstances of the recipient’s investment objectives and needs have not been considered in this commentary, and nothing in this commentary constitutes investment, legal, accounting or tax advice or a representation that any investment strategy or service is suitable or appropriate to the recipient’s individual circumstances.  Information contained herein has been compiled from sources believed to be reliable, but no representation or warranty, express or implied, is made as to its accuracy or completeness.  The recipient should not rely on this commentary for any investment decision or other action, and Santander expressly disclaims any liability for any losses arising from any reliance on or otherwise related to this commentary.  This commentary reflects the personal views of the individual sender of such commentary, and no part of his or her individual compensation was, is or will be directly or indirectly related to its content.  This commentary is provided as of the date and time thereof, and Santander does not undertake any responsibility to update or revise any of the information contained herein, which may change without notice.  Past performance is not indicative of future results.

Fixed income securities, including those described herein, are subject to many risks, including, but not limited to, interest rate risk, the credit risk of the issuer, inflation risk, liquidity risk and risk of a downgrade by rating agencies.  Emerging markets investments are additionally subject to political, economic, legal, regulatory, market, settlement, execution, currency and other risks.  Fixed income, and specifically emerging markets, investments are not suitable for all investors. 

Santander Investment Securities Inc. is an SEC registered broker-dealer, FINRA member and SIPC member.  Santander Investment Securities Inc. is a direct, wholly-owned subsidiary of Santander Holdings USA Inc., which is a direct, wholly-owned subsidiary of Banco Santander, S.A

Siobhan Morden
siobhan.morden@santander.us
1 (212) 692-2539

This material is intended only for institutional investors and does not carry all of the independence and disclosure standards of retail debt research reports. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This message, including any attachments or links contained herein, is subject to important disclaimers, conditions, and disclosures regarding Electronic Communications, which you can find at https://portfolio-strategy.apsec.com/sancap-disclaimers-and-disclosures.

Important Disclaimers

Copyright © 2024 Santander US Capital Markets LLC and its affiliates (“SCM”). All rights reserved. SCM is a member of FINRA and SIPC. This material is intended for limited distribution to institutions only and is not publicly available. Any unauthorized use or disclosure is prohibited.

In making this material available, SCM (i) is not providing any advice to the recipient, including, without limitation, any advice as to investment, legal, accounting, tax and financial matters, (ii) is not acting as an advisor or fiduciary in respect of the recipient, (iii) is not making any predictions or projections and (iv) intends that any recipient to which SCM has provided this material is an “institutional investor” (as defined under applicable law and regulation, including FINRA Rule 4512 and that this material will not be disseminated, in whole or part, to any third party by the recipient.

The author of this material is an economist, desk strategist or trader. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM or any of its affiliates may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This material (i) has been prepared for information purposes only and does not constitute a solicitation or an offer to buy or sell any securities, related investments or other financial instruments, (ii) is neither research, a “research report” as commonly understood under the securities laws and regulations promulgated thereunder nor the product of a research department, (iii) or parts thereof may have been obtained from various sources, the reliability of which has not been verified and cannot be guaranteed by SCM, (iv) should not be reproduced or disclosed to any other person, without SCM’s prior consent and (v) is not intended for distribution in any jurisdiction in which its distribution would be prohibited.

In connection with this material, SCM (i) makes no representation or warranties as to the appropriateness or reliance for use in any transaction or as to the permissibility or legality of any financial instrument in any jurisdiction, (ii) believes the information in this material to be reliable, has not independently verified such information and makes no representation, express or implied, with regard to the accuracy or completeness of such information, (iii) accepts no responsibility or liability as to any reliance placed, or investment decision made, on the basis of such information by the recipient and (iv) does not undertake, and disclaims any duty to undertake, to update or to revise the information contained in this material.

Unless otherwise stated, the views, opinions, forecasts, valuations, or estimates contained in this material are those solely of the author, as of the date of publication of this material, and are subject to change without notice. The recipient of this material should make an independent evaluation of this information and make such other investigations as the recipient considers necessary (including obtaining independent financial advice), before transacting in any financial market or instrument discussed in or related to this material.

Important disclaimers for clients in the EU and UK

This publication has been prepared by Trading Desk Strategists within the Sales and Trading functions of Santander US Capital Markets LLC (“SanCap”), the US registered broker-dealer of Santander Corporate & Investment Banking. This communication is distributed in the EEA by Banco Santander S.A., a credit institution registered in Spain and authorised and regulated by the Bank of Spain and the CNMV. Any EEA recipient of this communication that would like to affect any transaction in any security or issuer discussed herein should do so with Banco Santander S.A. or any of its affiliates (together “Santander”). This communication has been distributed in the UK by Banco Santander, S.A.’s London branch, authorised by the Bank of Spain and subject to regulatory oversight on certain matters by the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA).

The publication is intended for exclusive use for Professional Clients and Eligible Counterparties as defined by MiFID II and is not intended for use by retail customers or for any persons or entities in any jurisdictions or country where such distribution or use would be contrary to local law or regulation.

This material is not a product of Santander´s Research Team and does not constitute independent investment research. This is a marketing communication and may contain ¨investment recommendations¨ as defined by the Market Abuse Regulation 596/2014 ("MAR"). This publication has not been prepared in accordance with legal requirements designed to promote the independence of research and is not subject to any prohibition on dealing ahead of the dissemination of investment research. The author, date and time of the production of this publication are as indicated herein.

This publication does not constitute investment advice and may not be relied upon to form an investment decision, nor should it be construed as any offer to sell or issue or invitation to purchase, acquire or subscribe for any instruments referred herein. The publication has been prepared in good faith and based on information Santander considers reliable as of the date of publication, but Santander does not guarantee or represent, express or implied, that such information is accurate or complete. All estimates, forecasts and opinions are current as at the date of this publication and are subject to change without notice. Unless otherwise indicated, Santander does not intend to update this publication. The views and commentary in this publication may not be objective or independent of the interests of the Trading and Sales functions of Santander, who may be active participants in the markets, investments or strategies referred to herein and/or may receive compensation from investment banking and non-investment banking services from entities mentioned herein. Santander may trade as principal, make a market or hold positions in instruments (or related derivatives) and/or hold financial interest in entities discussed herein. Santander may provide market commentary or trading strategies to other clients or engage in transactions which may differ from views expressed herein. Santander may have acted upon the contents of this publication prior to you having received it.

This publication is intended for the exclusive use of the recipient and must not be reproduced, redistributed or transmitted, in whole or in part, without Santander’s consent. The recipient agrees to keep confidential at all times information contained herein.

The Library

Search Articles