The Big Idea

The Bahamas | Stealth outperformer

| October 20, 2023

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.

The debt of The Bahamas has turned in some of the strongest returns in Latin America this year, but recent developments have raised concern over the country’s fiscal transparency and its ability to meet fiscal targets. Officials face growing scrutiny for delays in releasing important financial data. These concerns may keep the carry trade in the country’s debt in place but likely will not allow for normalization on yields until investors get more clarity on fiscal consolidation and debt sustainability.

In recent months, The Bahamas lower risk and lower correlation with the broad market has proven advantageous, providing a defensive shield in a climate of external risk aversion. The off-index illiquidity of its debt has offered a technical advantage, cushioning the impact of selling pressure on higher beta credits. This lower beta and high yield combination has provided attractive carry returns, with the country’s EMUSTRUU debt total returns reaching an impressive 15%, second across Latin America only to El Salvador.

However, the Budget Office’s delayed release of fiscal data for June of FY2022/2023 has raised some concerns, especially as most countries have already published their September fiscal data. This delay not only hampers data transparency but also fuels suspicions that The Bahamas might have missed fiscal year targets. The potential solution on the horizon could be creative accounting, a strategy that may buy time but offers no clear path toward achieving the more ambitious targets for FY2023/2024. The cosmetic completion of the FY2022/23 fiscal target may sustain the carry trade but wouldn’t allow for a normalization on yields under the still high uncertainty on the fiscal consolidation/debt sustainability.

The delay in releasing June data may be due to the challenges of last-minute spending by state-owned enterprises in the final month of the fiscal year, which ends on June 30. Year-to-date data through May shows a cumulative deficit of $319 million, approaching the full-year target of $575 million. This may seem manageable, but it’s concerning when considering the fiscal deficit was $231 million in June 2021 and surged to $319 million in June 2022, with a 12-month rolling deficit of $637 million by May 2023. Surprisingly, these data release delays have not triggered any obvious market jitters. To the contrary, Eurobond prices have risen in recent days, while bond prices weakened in most of Latin America.

It seems the market anticipates at least a cosmetic resolution, avoiding the negative publicity of missing annual targets. Compliance with these targets is crucial, given the imperative of gradual fiscal consolidation from 5.8% of GDP in FY2021/2022 to 4.2% of GDP in FY2022/2023, considering the persistently high debt ratios. There is little margin for error under this gradual fiscal adjustment, and the trajectory accelerates next year, targeting -0.8% of GDP in FY2023/2024. This ambitious path depends on aggressive spending cuts and increased revenues, driven by robust tourism-led economic growth. However, these cyclical revenues might not be sufficient to offset continuous spending.

With no evident improvement in the 12-month rolling fiscal deficit this year, there may be temporary fixes for the June data, but these don’t guarantee an improved trajectory for the following fiscal year. The current fiscal year represents a critical phase in the fiscal adjustment process, testing the government’s commitment to stabilizing high debt ratios.

While a muddling-through approach may sustain carry returns and reaffirm willingness to meet obligations ahead of a 2024 Eurobond maturity, high yields may linger at double-digit levels until a clear path to nominal fiscal balance emerges. This scenario could spark debate within the political establishment about the feasibility of more aggressive spending cuts or the alternative of tax hikes. The fiscal performance now likely requires a proactive fiscal management strategy, given the persistent cash flow deficits of approximately 4% of GDP and the worrisome high debt ratios, which stood at 82% of GDP in June 2023. The absence of an IMF program to bolster compliance and the vulnerability to external shocks make it imperative to reassess the fiscal trajectory this year, as passive carry returns remain sensitive to the government’s commitment to fiscal consolidation.

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

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