For the first time in at least a decade, the EM corporate bond universe is shrinking. Primary issuance so far this year has been just over $200bn, having averaged $400bn for the previous 10 years. At the same time, over $340bn of bonds in the asset class have amortised in 2022, and almost $80bn of bonds have been tendered, repurchased, or called, according to some investors’ estimates.
There’s a lot less paper to go round than there used to be. And this means that — despite EM fund managers having had to deal with outflows most of the year — they are now scrambling around trying to find ways to put it to work. Failing to do so means failing to keep up with a rally that is being driven by investors trying to get ahead of an expected end to rate increases in the US early next year.
December liquidity is bad enough in the best of years, but some portfolio managers say the situation today is as tough as they can remember for many years. Indeed, the rally is — somewhat perversely — causing major headaches as investors that held unusually high levels of cash struggle to jump on the bandwagon.
Surely, then, DCM houses are rubbing their hands together and getting ready to unleash some new supply on to a hungry buyside? Sadly, even perennially bullish syndicate bankers are pessimistic that more than a handful of EM companies will venture out into the international market to take advantage of the rally.
It appears that many EM companies have discovered that, without funding costs being artificially suppressed by developed market central banks, dollar markets just do not appeal. Moreover, it is not clear that we should expect them to flock back in the same volume in the medium term: the boom in EM corporate bonds occurred in an era of ultra-low interest rates that it is not clear is going to return any time soon.
At the same time, domestic bond markets in many major EM nations — most notably Brazil — continue to get stronger and deeper. For most EM companies, local markets make a lot more sense: raising funding domestically involves less burdensome disclosure, avoids the risk of an FX mismatch, and gives them the flexibility of selling smaller deals. The illiquidity premium that companies pay for issuing deals of less than $500m in dollar markets has only grown in recent years.
Even if domestic funding sources were to dry up, a resumption in the growth of the EM corporate bond market would require an increase in funding needs among companies. But Latin America, which has been the most prolific of the EM regions in providing foreign bond buyers with companies to finance, continues to struggle to reach its growth potential.
Investors may have to get used to scrapping for EM corporate bond paper for a while longer.