Global Investing

This year’s renewed euphoria over emerging markets has bypassed some places. One such corner is Belize, a country sandwiched between Mexico and Guatemala, which many fear is gearing up for a debt default. There is a chance this will happen as early as next week

Belize is a small country with just 330,000 people but back in 2007,  it issued a $550 million bond on international markets. Known locally as a superbond for its large size (relative to the country’s economy), the issue earned Belize a spot on JP Morgan’s EMBI Global index of emerging market bonds.

As this index is used by 80 percent of fund managers who invest in emerging debt, many of them will have allocated some cash to hold the Belize bond  in their portfolios. These folk will be waiting anxiously to see if Belize pays a $23 million coupon due on Feb. 20.

Never very liquid, the bond has taken a sharp lurch downwards since Feb.7 when Prime Minister Dean Barrow said in a pre-election speech that he would seek “instructions” from the electorate to “do something about the bond”.  That unsurprisingly triggered panic selling and the bond now trades around 40 cents on the dollar, down some 20 cents since the start of February. The yield has risen sharply to 23 percent from 16 percent and and the Belize spread over U.S. Treasuries — the premium that investors demand to hold the bond — has blown out to almost 2000 basis points, higher than any other country in the EMBI Global index. That’s a rise of 400 bps since the day of Barrow’s speech.

Exotix, a frontier market-focused brokerage says:

What happens next? We think the government will pay the forthcoming 20 February coupon but clearly there is a risk that it won’t. But even if it does, that does not remove the uncertainty now hanging over the bond… The government has the money and it might be counterproductive politically to default just before a general election. However we do acknowledge that the bond’s domestic unpopularity and the low price make non-payment an easier option.

At a monetary policy event hosted by Fathom Consulting at the Reuters London office today, former Bank of England policymakers were discussing the pros and cons of “financial repression”.

Financial repression is a concept first introduced in the 1970s in the United States and is becoming a talking point again after the financial crisis, especially with a NBER paper last year written by economists Reinhart and Sbrancia reviving the debate.

In the paper, authors define financial repression as follows:

Historically, periods of high indebtedness have been associated with a rising incidence of default or restructuring of public and private debts. A subtle type of debt restructuring takes the form of “financial repression”.

This week’s evaporation of confidence in the euro zone’s biggest government debt market — Italy’s 1.6 trillion euros of bonds and bills and the world’s third biggest — has opened a Pandora’s Box that may now force  investors to consider the possibility of a mega sovereign debt default or writedown and, or maybe as a result of,  a euro zone collapse.

Given the dynamics and politics of the euro zone, this is a chicken-or-egg situation where it’s not clear which would necessarily come first. Greece has already shown it’s possible for a “voluntary” creditor writedown of  the country’s debts to the tune of 50 percent without — immediately at least — a euro exit. On the other hand, leaving the euro and absorbing a maxi devaluation of a newly-minted domestic currency would instantly render most country’s euro-denominated debts unpayable in full.

But if a mega government default is now a realistic risk, the numbers on the “ifs” and “buts” are being being crunched.