Weak local bond markets hinder access to capital by emerging markets firms, IMF working paper says

By Reshmi Basu

New York, Aug. 18 - More corporations in emerging markets are seeking access to capital markets but are constrained by an undeveloped local market, according to an International Monetary Fund working paper titled "An Anatomy of Corporate Bond Markets: Growing Pains and Knowledge Gains."

"The authorities in these countries are becoming increasingly aware of the importance of establishing deep, liquid corporate debt markets and have placed such development high on their agenda," the authors, Pipat Luengnaruemitchai and Li Luan Ong, wrote in the research paper, which does not necessarily represent the views of the IMF or reflect IMF policy.

Nonetheless, corporate bond markets in many countries are underdeveloped, plagued by a limited supply of quality issuers and insufficient market infrastructure.

Necessity has dictated the acceleration of corporate debt in emerging markets. For example, Asian corporates tapped the bond market after the Asian financial crisis when bank lending dried up.

In Asia, the lack of bank financing and the need to restructure balance sheets provided the need to issue corporate debt, the authors noted.

In regards to Latin America, the rapid increase of local institutional investors, coupled with refinancing needs of the corporate sector during a difficult external environment, have been key drivers.

Furthermore, the "lack of liquidity in secondary markets and a meaningful investor base with developed credit assessment skills, as well as high costs of local issuance" are constraints to the development of the local market.

"Access to local bond issuance has largely been restricted to top tier corporates, a situation attributable to the risk aversion of investors, investment restrictions on institutional investors as well as the lack of tools for reliable credit pricing and risk management in the markets," the authors write.

Therefore, improvements in market regulation and infrastructure are vital for the development of local securities markets.

"The elements include benchmarking, corporate governance and disclosure, credit risk pricing, the availability of reliable trading, clearing and settlement systems and the development of hedging instruments.

"Meanwhile, the demand and supply of corporate bonds are dependent on factors such as the investor base, both local and foreign, and government policies toward the issuance process and associated costs, as well as the taxation regime," according to the authors.

Also, high levels of sovereign debt could squeeze out the private sectors.

"Theoretically speaking, investor confidence could be fostered by providing effective market infrastructure, promoting market credibility through adequate disclosure and transparency. In practice, the investor base has typically developed gradually with the evolution and improvement in these market characteristics."

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