High Vietnam CDS may drive up bond yields

The credit default swap (CDS) of these countries increased mainly due to the interest rate hike by the US Federal Reserve (Fed), China’s economic slowdown, and the tumble of global crude oil prices. Higher CDS spreads mean that investing in the country is rated as riskier.

For the first two quarters of 2015, the CDS of emerging markets seemed to move sideways, fluctuating little. These countries’ CDS spreads started to rise in August and reached a peak at the end of September before falling steadily. Compared with 2014, Vietnam’s CDS spreads rose by 89.96 bps, closing the year at 285, after reaching a two-year high at 302.5 in September. Similarly, the CDS of three other emerging Southeast Asian (SEA) nations also increased quite strongly. Thailand’s CDS reached 134.7 by the end of the year, up 29.79 bps y-o-y, while the CDS of Indonesia and the Philippines grew by 69.91 bps and 16.66 bps respectively, to 229.9 and 107.6.

In 2015, the CDS of emerging markets rose mainly due to China’s economic slowdown, which resulted in a Chinese stock market crash, the deterioration of China’s real estate sector, and unexpected CNY devaluations. A gloomy outlook from China and the weakening of CNY negatively affected export and import activities between emerging markets and China. The Asian Development Bank (ADB) and the World Bank reduced the 2015 growth forecast of SEA nations because of the Chinese economic slowdown. In August, immediately after the Chinese yuan devaluation, several other emerging market currencies were devalued to maintain their competitive advantages in international trade, which raised concerns from global investors about a currency war. The CDS of SEA emerging markets surged strongly in August.

An interest rate hike in the US was a second factor driving foreign investors to sell off emerging market fixed income assets. The higher interest rate attracted investors to the US market, which is viewed as a safer and more investable destination than emerging markets. Global investors had diverted funds from emerging markets as there was a strong expectation that the Fed would raise interest rates sometime in 2015 – a net of around $500 billion was withdrawn from emerging markets in 2015, the first annual outflow in decades, the main reason for CDS spreads rising until the end of September.

Even before the Fed meeting in September, the CDS spreads of emerging markets had soared. In the September meeting, after the Fed announced its decision to keep interest rates unchanged, CDS spreads started to fall back, but not as deeply because of investors’ concerns about the likelihood of a December interest rate hike. As expected, the Fed officially decided to raise interest rates in December, which once again drove the CDS of emerging markets upwards after moving sideways during October and November.

Beyond the Fed’s interest rate decisions and the Chinese economic slowdown, a slump in global crude oil prices also negatively impacted CDS spreads of oil-exporting countries, including Vietnam, as it directly reduced the state budgets of these countries. By the end of the year, oil prices had fallen by 30.5 per cent, and by over 70 per cent since their five-year peak in 2011, to almost $30 per barrel. Vietnam’s revenue from crude oil in 2015 was VND61 trillion ($2.74 billion), completing only 65.6 per cent of the target, and down significantly by 43 per cent from the previous year. With a deep tumble in crude oil prices in December, and the Fed’s interest rate hike, Vietnam’s CDS rose quite sharply after remaining stable in October and November.

In 2016, we expect Vietnam’s CDS to remain high, because the above-mentioned factors are expected to endure. A gloomy outlook for the Chinese economy in 2016, together with its real estate, credit, and investment bubbles, are increasing the risk of a global slowdown. Although the Fed did not increase the US’ borrowing cost in its first meeting in 2016, it still plans to raise rates this year. Global crude oil prices are also expected to remain low this year, with a recently published forecast from Goldman Sachs predicting crude oil prices may fall to $26 per barrel.

During the first two months of 2016, Vietnam’s CDS has continued to rise, reaching a new peak of 312.27 on February 9. Again, this is mainly due to the negative outlook of China’s economy, global financial turmoil, and the slump in crude oil prices.

Vietnam plans to issue $3 billion of international government bonds in 2016 to make debt payments that are coming due this year, and to support the state budget. Vietnam previously issued $1 billion of ten-year international bonds in 2014 at a cost of only 4.8 per cent per annum, at a time when the prevailing CDS was 191.5. At that time, Vietnam’s bonds attracted 450 investors worldwide with a total registered amount of $10.6 billion. However, the international bond issuance plan in 2016 might be hindered by a recent rise in CDS spreads compared with 2014, which makes Vietnam’s bonds less attractive to global investors.

By Nguyen Thi Ngoc Anh - Research Department VPBank Securities