Ecuador’s Bond Slump Is Just Beginning to Stone Harbor, Aberdeen

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By many measures, Ecuador’s return to the overseas bond market was a resounding success. Nevertheless, some big debt investors are staying away.

The nation’s five-year notes surged as much as 10 percent after they were issued in March, and a rebound in oil helped Ecuador pay 2 percentage points less in yield in a follow-up sale last week. Yet Stone Harbor Investment Partners LP and Aberdeen Asset Management Plc say the risks are still too great.

Prices for Ecuador’s Oriente crude are about 30 percent below the $79.70 a barrel the country targeted in its 2015 budget, while the dollar as the official currency has risked making its other exports less competitive. Since May 13, the day before Ecuador sold more of the notes, the debt has underperformed the broader market for junk-rated sovereign bonds in emerging markets, falling 3.4 percent.

The recent sale “highlights the challenges of being a dollarized oil-exporting economy in a low-oil world,” Stuart Sclater-Booth, a money manager at New York-based Stone Harbor, which oversees more than $50 billion, said in an e-mail. “It’s just not a great country to lend to at these prices.”

Demand for Ecuador’s $750 million add-on sale approached $2 billion, and more than 120 investors participated, according to the press office for Ecuador’s finance ministry. It also said the sale will help strengthen the nation’s currency reserves and fulfill Ecuador’s investment plan for 2015.

Bond Yields

The notes were underwritten by Citigroup Inc., which also managed Ecuador’s bond sale in March.

While Ecuador sold the notes at a premium last week to yield 8.5 percent, the 10.5 percent in annual interest the notes pay is still the highest of any comparable security since an offering by Turkey in 2002, data compiled by Bloomberg show.

Despite the about 47 percent rebound in oil from its low, Edwin Gutierrez, a money manager at Aberdeen, said he sold his holdings of Ecuador bonds due 2020 before last week’s sale because he anticipated the country would return to the market.

“Eight points in a short amount of time for a credit like Ecuador is good enough for me,” Gutierrez said by e-mail.

Ecuador, which last year relied on crude for about half of its export revenue, adopted the dollar in 2000 after a banking crisis in the 1990s. President Rafael Correa said in January that the use of the dollar means the government can’t print more money to increase the amount of cash circulating in the economy, thus crimping growth.

Without the ability to weaken its currency to boost demand for its non-oil goods, Ecuador’s other sources of export revenue are suffering, said Marco Santamaria, a money manager at AllianceBernstein Holding LP.

Debt Dynamics

“They are trying to finance as much as possible, but it is being done at a high rate of interest and is causing debt dynamics to really deteriorate,” he said from New York.

While the appreciation of the dollar makes Ecuador’s exports less competitive, private industry has adapted to the change thanks to government policies that have bolstered non-oil exports in the first quarter, the Finance Ministry said.

Correa has signed deals with China for $7.5 billion and obtained about $1 billion in loans from banks and multilateral institutions. He also cut spending by $1.4 billion, reduced pension subsidies by $800 million, and will increase revenue by $1 billion through new taxes on trade and a new tax amnesty law, the ministry said. The $3.2 billion fiscal adjustment is greater than the total amount of oil revenue anticipated for 2015, according to the ministry.

China Loan

Ecuador received some of the proceeds from a loan extended by China this month and expects $500 million more in June, the ministry said. The country is working on a credit line of $1 billion from the China Development Bank Corp. to be disbursed over the next few years as part of loan deals announced in January, the ministry said.

Ecuador “has shown some nimbleness to bridge its funding gap and therefore offers value,” Patrick Esteruelas, an analyst at Emso Partners Ltd., which manages about $2.1 billion, said in an e-mail. He declined to say whether Emso owns Ecuador bonds.

To balance the budget, Correa would need to cut spending by about 1 or 2 percent of gross domestic product, which would mean cutting subsidies and other programs that have boosted his popularity, said Javier Murcio, who helps oversee $9 billion in emerging-market debt at Standish Mellon Asset Management.

With presidential elections slated for 2017, Correa is unlikely to reduce spending by that amount, he said.

“It’s going to require some domestic sacrifices, particularly with social projects,” Murcio said by phone from Boston. “It’s a very, very difficult position.”

With reporting by Nathan Gill.

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