The history of Latin American sovereign debt is a 200 year story of overstretching, currency mismatches and messy defaults. But the commodity boom and low interest rates of the last decade have provided the better-run economies in the region with the chance to put their books in order.
Vital to this process has been taking a longer term view of debt issuance. Governments have pushed out average maturities, increased hard currency reserves, set benchmarks for corporate issuers and diversified currency exposure.
We should remember this before criticising the recent fad of Latin American sovereigns borrowing in euros. Peru last week followed in Chile’s steps with a 10 year, while Brazil raised euros last year and Mexico is a regular issuer. Colombia and Uruguay are also looking at heading to the single currency.
The problem for some observers is that — with the euro/dollar swap now unfavourable — Peru’s latest deal came well wide of its dollar curve. While comparative currency mathematics is a favourite hobby of syndicate bankers, it rather misses the point.
Firstly, Latin American sovereigns are not necessarily swapping their euro debt; rather these deals work as a diversification of their currency exposure. And in absolute coupon terms, euros are easily beating dollars. Throw in the possibility of a dropping euro and this could be very good business.
Then why not issue in dollars and then swap to euros? Quite apart from the limits on swap lines, this also misses the point. Cost is not everything for the Latin American sovereigns. If it were, they would just stick to their domestic markets.
The financial crisis taught borrowers that funding sources can dry up or turn hostile very quickly. Raising dollars and swapping into euros would have only cannibalised Peru’s dollar curve.
By tapping euros, Peru is simply ensuring that the large quantities of money under management in the likes of Nordic countries, France and Germany have Peru on their radar.
This diversification of the investor base may cost a few basis points, but it is a small price to pay for planning for a rainy day.
In the long term, it almost certainly pays for itself anyway. Investors are going to feel safer investing in a country they know has abundant funding sources than one reliant on just one market, and this eventually leads to tighter spreads in all currencies.
Just take Mexico. United Mexican States trades well inside most emerging market countries and has the luxury of being able to tap almost any of its five markets — pesos, dollars, euros, sterling and yen — at will.
Mexico’s funding prowess earns it unrivalled respect from investors, better spreads and more flexible market access.
It is only natural that other Latin American sovereigns want to emulate this example.