ANALYSIS: Emerging market credit ratings finally start rising again

From Brazil, Nigeria and Turkey to even some of the riskiest emerging markets such as Egypt and Zambia, evidence is growing that a decade-long deterioration in sovereign credit ratings has finally started to reverse.

Economists watch ratings because they influence a country’s borrowing costs and many are now highlighting a turnaround that seems incongruous with the usual warnings about rising debt pressures.

According to Bank of America, almost three-quarters of all sovereign rating moves by S&P, Moody’s and Fitch this year have been in a positive direction, compared with the almost 100% that went the other way in the first year of the Covid-19 pandemic.

With that and the spike in global interest rates now in the rear-view mirror, more good news should be coming too.

Moody’s now has 15 developing economies on a positive outlook — rating firm parlance for an upgrade watch — one of its highest numbers yet. S&P has 17, while Fitch has its best ratio of positive vs negative outlooks since a postglobal financial crisis rebound in ratings in 2011.

Fitch’s global head of sovereign research Ed Parker said the turnaround has been down to a combination of factors.

For some countries it has been a general recovery from Covid-19 and the energy price spikes caused by the Ukraine war. Others are seeing country-specific improvements in policymaking, while a core group of junk-rated “frontier” nations are now benefiting from suddenly being able to access debt markets again, he said.

Aviva Investors’ head of EM hard currency debt, Aaron Grehan, describes the current upgrade wave as a “definitive shift” that has also coincided with a sharp drop in the premiums that emerging markets almost everywhere have had to pay to borrow.

“Since 2020, more than 60% of all rating actions have been negative. In 2024, 70% have been positive,” Grehan said, adding that Aviva’s internal scoring models were similar.

The awkward reality though is that the current run of upgrades will not make up for the past 10-15 years.

Hardly sparkling

Turkey, SA, Brazil and Russia all lost coveted investment grade scores during that time, while a deluge of debt almost everywhere apart from the Gulf has left the average emerging market credit rating more than a notch lower than it used to be.

And though some countries argue that developed economies where debt is still surging are being treated more leniently by the ratings firms, emerging market finances are hardly sparkling now.

Eldar Vakhitov, a sovereign analyst and “bond vigilante” at M&G Investments points to the IMF’s recent forecast that the average emerging market fiscal deficit will edge up to 5.5% of GDP this year.

Just a year ago, the assumption was that the 2023 emerging market fiscal expansion was a one-off that would be fully reversed this year. Now the emerging market fiscal deficit is expected to remain above 5% of GDP until the end of the fund’s forecast horizon in 2029.

“For some countries it is all about the starting point,” Vakhitov said, explaining that even though government deficits were still wide, they had at least dropped from peak Covid-19 levels.

A few governments, such as Zambia, are getting a natural lift from coming out of debt restructurings while a number of places are making obvious policy improvements.

Turkey, which has already had a number of upgrades for attacking its inflation problem head on, and Egypt, which seems to have shaken off default worries, are expected to see multinotch upgrades now, according to market pricing.

“Ratings agencies tend to be slow though,” Vakhitov said, “so it often takes them a lot of time to give upgrades.”

The downgrades have not stopped completely. Moody’s and Fitch have put China on a warning over the last six months, Israel’s war has led to its first yet downgrades and Panama has been stripped of one of its investment grades.

Three years on from Covid-19 spending splurges and the bills are having to be paid too. Emerging market hard currency debt amortisations and coupon payments are expected to reach an all-time high of $134bn this year, JPMorgan estimates.

That is up by $32bn from last year, so it is not surprising then that emerging market policymakers are eager to do all they can to get their ratings up and keep borrowing costs down.

Indonesia’s finance minister, Sri Mulyani Indrawati, explained in London this month how the agencies had doubted her when she told them during Covid-19 that Indonesia would get its deficit back below 3% of GDP within three years.

“It ended up that we were able to consolidate the fiscal [position] in only two years,” she said. “So I always like to say to my ratings agency staff, I won the bet, so you have to upgrade my rating!”

Reuters