Emerging market appetite down, says S&P

By Reshmi Basu

New York, June 21 - Despite strong fundamentals, the appetite for emerging market issuance will be restrained in the face of rising interest rates in the United States, according to a Standard & Poor's report by managing director Diane Vazza and director Devi Aurora.

"Vigor in cross-border issuance initially offset weakness in the domestic marketplace, although cross-border activity too has decelerated in recent weeks," said Vazza and Aurora of activity during 2004 in their report, "Emerging market issuance: At Risk of Catching a Cold."

Investor nervousness explains why emerging market issuance is down despite high commodity prices, diverging from market trend.

Emerging market issuance slowed in April and May after a strong first quarter, which saw $37 billion in new issues, the second highest volume recorded historically in the first quarter.

The boom in new issuance corresponded with improvements in credit quality. Upgrades accounted for 53% of all emerging market rating actions in 2003, the first time upgrades surpassed downgrades in seven years.

Meanwhile, runs in global commodity process, fueled in part by strengthening economic fundamentals in the United States and Japan as well as demand from China's manufacturing sector have "generated impressive export earnings and stimulated need for additional capital among issuers based in emerging markets," said Vazza and Aurora.

Despite the decrease on a year-over-year basis, South Korea is the dominant issuer by country in the year to date with $12.1 billion in total proceeds. Korean banks have been the most active in accessing the capital markets.

By sector, issuers in broad-based industrials and telecommunications were the only ones that registered increases in the year to June 9.

The industrial sector has $25.6 billion in new issues in the year to date, 18.9% more than the same period a year ago. Integrated oil and gas borrowers were the biggest players in that sector with $8 billion in 2004 to date. High technology, metals, mining and steel, and transportation also had $2 billion in issuances.

Telecommunications rose 32.7% year over year in 2004. However, banks, financial institutions and utilities were all below year-ago levels in the first quarter.

Speculative grade rated entities accounted for 32% of total emerging market issues, up from the 25% average share over the last three years.

"The increase in speculative borrowing - which totaled $8.9 billion in the period Jan. 1 to June 9 - reflects both increased demand by investors as well as a move by issuers to take advantage of the favorable issuance environment," said Vazza and Aurora.

In 2004, gains have not been equally shared across all ratings categories, unlike 2003 when easy liquidity conditions fueled gains across all rating categories.

In 2004, top-rated issuers in the AAA rating category saw the biggest annual increase in issuance of 467% to $3.1 billion.

Other rating categories that saw increases were A and BB.

Most of the slowdown in new issues occurred in domestic marketplaces, rather than cross-border counterpart sales.

"Cross-border funding in emerging market borrowers continued at a fairly healthy clip in the year to date (ending June 9), though the changing direction of interest rates in the U.S. and some other developed markets is expected to restrain growth in the remainder of the year," wrote Vazza and Aurora.

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