The Big Idea
The Bahamas | Playing defense
This material is a Marketing Communication and does not constitute Independent Investment Research.
Through the global market tariff tantrum, Fitch quietly promoted the Bahamas to ‘BB-‘ and Moody’s shifted to a positive outlook on its ‘B1’ rating. This is quite an achievement. The debate now shifts to whether the Bahamas will graduate fully from ‘B’ to ‘BB’ and diverge from other high yielding ‘B’ peers. The latest rating actions highlight the defense value of the Bahamas. Good rating momentum and off-index illiquidity also help insulate the name from market instability. The Bahamas offers good carry returns and good prospects for capital returns as it converges toward the lower yields of comparable ‘BB’ credits.
There are pros and cons of the off-index status for the Bahamas. The illiquidity discourages selling and lowers the market beta. However, the off-index status also lowers index demand and discourages investor interest. This is maybe why the Bahamas doesn’t trade even tighter to peers. The relative performance this past month reflects the lower beta to El Salvador and better overall risk-adjusted total returns. Perhaps much more relevant is the credit rating upgrade trajectory. Credit ratings typically have more impact on smaller credits with less sell side coverage and subsequent higher correlation between yields and credit ratings.
The recent rating actions now merit peer comparison and raises the issue of whether the Bahamas graduates to ‘BB’. The current split ‘B1’/’BB-‘ ratings aligns with Honduras and exceeds El Salvador. The inaugural Fitch rating was an opportune entry point in the ‘BB’ category with a neutral outlook on the ‘BB-‘ rating. This was a smart strategy to complete the ratings across the three agencies and differentiate with a higher credit rating. The timing of the positive outlook on the ‘B1’ rating from Moody’s was also opportune. The timing from Moody’s was maybe long overdue after years of rating inaction despite effective crisis management through the pandemic and lower debt ratios from peak levels. However, the timing is also unusual after the disappointing fiscal performance this year. Will the positive outlook transform into a rating upgrade if the Bahamas misses its fiscal target this fiscal year?
The Moody’s rating upgrade is quite relevant as it would argue that the Bahamas at ~9% yields should trade closer to BB comparisons like Guatemala or Costa Rica at 6.5%-7.5% yields. There are other factors for assessment like the investment grade rating potential and the index demand eligibility; however, the current spread premium seems quite wide relative to even the cheaper BB credits like Colombia. The composite BB rating would suggest a certain economic resiliency and tighter relative value metrics to BB credits.
The Moody’s rating should be inherently more flexible on the ‘Ba3’ to ‘B1’ rating range. Moody’s may also weigh more heavily the uninterrupted track record of debt repayment and no default since 1983 as well as the stronger institutions (this explains why Colombia is still investment grade). Moody’s rates the institutional and governance strength at a high ‘Baa2’. The Fitch ‘BB-‘ inaugural rating may also invite a more proactive stance from Moody’s with less reputational risks as a laggard opposed to leader rating agency. The fiscal strength criteria from Moody’s are at a low ‘B3’ as the weakest rating category. The explicit Moody’s guidance references not only fiscal consolidation but also the proactive financing strategy that is necessary to lower the liquidity and solvency risks. The fiscal consolidation is now reaching an important juncture after several years of improvement but yet still not yet at the debt stabilizing level of a 3%-of-GDP nominal fiscal surplus.
“The Bahamas’ rating could be upgraded if the government continues to demonstrate a track record of fiscal consolidation, leading to a sustained reduction in government debt and improvement in debt affordability. Efforts to improve the maturity profile of government debt – through measures such as conducting buybacks and refinancing maturing debt with longer-term debt – would demonstrate the government’s capacity to tap diverse external financing sources and would support the credit profile.”
—Moody’s
The fiscal performance year-to-date is worse than the same period last year with a 12-month moving average of a 2%-of-GDP fiscal deficit through January 2025. This is far from the target of 0.5%-of-GDP fiscal deficit for FY2024/25 and even further from the 3%-of-GDP nominal fiscal surplus for FY2025/26. There are only five months remaining in the fiscal year to seek efficiency gains on the budget for lower spending and higher tax collection. The credit rating upgrade prospects will hopefully motivate as it will be difficult for Moody’s to follow-through on the upgrade under a missed fiscal target. There is not much room for backsliding on a gradual trajectory and still very ambitious fiscal surplus necessary for lowering debt ratios at 78% of GDP back towards 50% of GDP. There is not much if any flexibility on the rigid budget with the emphasis clearly on the need for higher revenues closer to 25% of GDP.
It was certainly a vote of confidence that Moody’s shifted to positive outlook while tolerating the disappointing fiscal data this fiscal year. Moody’s expects some spending restraint; however, the revenue projections are what matters most for ambitious fiscal consolidation. The Moody’s fiscal forecasts show a deficit of 1.1% of GDP in 2025 and a small nominal surplus of 0.2% of GDP in 2026. This is less optimistic than official projections but reflects the full impact of the corporate tax revenues. The corporate income tax should provide some revenue near 1% of GDP in 2026. Should we assume follow-through rating upgrade maybe later into 2026 aligned with the fiscal consolidation from corporate tax revenues? This would allow still for an optionality of a rating upgrade even if missing the fiscal target for end June FY2024/25. This then would assume optionality for positive rating surprise and a divergence trade with the B peers into next year. The Eurobond curve also appears particularly flat against the B rated comps with bullish curve steepening the favorable trend on positive credit rating momentum.
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