In what ways can active management help to harness these opportunities?
It is important to understand the impact of sovereign ratings on corporate securities. In recent years, the number of EM sovereigns attracting investment-grade (IG) ratings has increased substantially, but in overall terms, the spectrum remains very wide, especially in LatAm, where Chile is rated A+ while Argentina languishes on the lowest high-yield rating rung. Generally speaking, credit-rating changes at a country level are normally applied in equal measure to numerous companies, especially state-affiliated, system-relevant banks or strategically relevant companies. The methodologies employed by rating agencies typically do not allow a company to have a higher credit rating than the country in which it is headquartered. However, rating agencies exercise a degree of latitude with regard to robust companies with worldwide operations or a bias toward exports, classifying their securities notches above their respective countries’ sovereign credit ratings. This enables active investors to identify and capture excess risk premiums from LatAm issuers that are as fundamentally sound, prudently leveraged, and financially robust as their peers in developed markets (where sovereign ratings are higher). It is worth mentioning that companies in LatAm have prudentially done their borrowing in US dollars in recent years. Most of those companies by now have a global footprint and generate a solid percentage of their revenue in US dollars. Moreover, many companies hedge their interest payables and total debt loads in US dollars.
As a portfolio manager, what are the fundamental attractions of investing in LatAm corporate bonds, in your opinion?
In recent years, companies’ balance sheets have become stronger and their ability to generate free cash flow has improved while overall indebtedness has remained stable or has diminished. This leverage-free growth is a highly desirable attribute, while the maturity profile is also favorable in the sense that short-term debt accounts for a comparatively small proportion of the total debt ratio, meaning that the refinancing risk is low. In addition, by virtue of LatAm being the oldest and most mature segment of the EM bond universe, issuers typically benefit from strong management teams with a proven track record in handling crises. Furthermore, investors in LatAm debt are relatively sophisticated and demand high levels of transparency, meaning that quarterly reporting is standard (unlike in other geographical components of the EM universe). All of this contributes to a very robust high-yield sector offering superior compensation for astute risk absorption – this is an area in which we particularly seek to add value on behalf of our investors, with our strong expertise being supported by a collaboration with Lucror Analytics, an independent research firm specializing in the high-yield credit segment. In overall terms, the LatAm universe provides active managers with a wide range of idiosyncratic opportunities, creating the potential to generate a solid investment performance with broad diversification.