Wealthy Nations Daily Update - Chile

In what has been a pretty rough ride market-wide so far this year, we look to our favoured LatAm gem (or is it  a gift? - apologies for the typo yesterday), Chile. Although the country remains highly dependent on commodities, ~50% of exports - with copper a large chunk of this, Chile has managed to maintain “strong fiscal and government metrics” according to rating agency, Moody’s.

Chile remains a firm favourite of ours; it is the most resilient country within the region, regarded a “safe-haven”, the highest rated country in LatAm (Aa3) and our holdings have been some of the best performers so far this year. We are holders of USD issues from Chile’s largest and sole government-owned bank, Banco Del Estado (Banco Estado) 3.875% 2022 (rated Aa3/A+) and the largest global producer of copper, state-owned Codelco; via both the 4.5% 2023 and 4.875% 2044 (rated A1).

We favour holdings in these quasi-sovereign bonds as they offer very attractive spreads to the USD denominated sovereign paper; which currently trade at +135bps over Treasuries on the 10-yr, and +165bps for the 30-yr. By way of comparison, Banco Estado maturing in 2022 currently trades at a spread of +205bps and offers an attractive risk-adjusted expected return and yield of ~10% for a AA rated bond. While at +331bps over, the Codelco 2044s yield over 5.8% and combined offer an expected return of over 31%.

Clearly out of favour is LatAm’s largest economy, Brazil; now officially junked by the three rating agencies. After Standard and Poor’s downgraded the rating a week ago, Moody’s took the country’s long-term credit rating to sub-investment grade, announcing a two notch cut to BB (with outlook negative). Citing “the high likelihood that government debt will exceed 80% of GDP within the next three years… and ... challenging political dynamics”. This did not take the market by surprise, in fact the 5-yr CDS is priced ~10 bps tighter prior to the announcement and 30bps tighter since last week; at 460bps. As we have written before, we have never indulged in Brazilian debt, even when we regarded it as a ‘3-star’ country.

With the commodity rout testing LatAm economies, we expect rating agencies will continue to lower sovereign ratings within the region. Chile could be revised or put on watch as we expect the country to post a further deficit this year; although we expect Finance Minister Valdés to respond to any pressures on expenditure with prudent fiscal policy. However, we are not looking to change our positioning in Chile in the short-term as the bonds we hold offer around 4 credit notches of cushion.