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Vietnam govt-back bonds warrant stricter due diligence – opinion

18 Mar 2013

The Southeast Asian nation must establish stricter oversight if it wants to restore investor confidence in its domestic bond market, which has been plagued by a flurry of scandals.

Just like other emerging Southeast Asian nations – notably Indonesia, Malaysia and the Philippines which have become region’s most-preferred bond market destinations – Vietnam does seem to hold some promise for investors.

One noticeable trend is that overseas investors have been lured back to the nation’s bond market due to high yields, a steady currency and relatively low inflation. According to Dragon Capital, a renewed foreign interest in five years in Vietnam’s government bond market resulted in net buying of around US$350 million between November 2012 and January this year.

This is definitely good progress for the nation, especially when compared to back in 2008 when global investors sold off their US$5 billion bond position in the country due to concerns over the stability of the dong.

Vietnam also offers chunky yields. For example, the sovereign’s 10-year bond is able to fetch a return as high as over 10.2% on March 14. And given that its real rate of interest is around 3.4%, the nation outshines its Southeast Asian nation peers including Malaysia’s 2.2% and Indonesia’s 0.9% just to name a few.

While all this seems peachy for investors yearning for potential yield pickup, the nation, however, is still entangled in a web of impediments, which could prove unfavourable for investors in the long run.

For starters, although investors remain optimistic towards risk-free sovereign bonds, they reacted more guardedly towards the the recent issuance of Vietnam’s government-backed bond due to the emergence of scandals circling these debt instruments.

On February 27, the Vietnam Bank for Social Policies (VBSP), a state-owned organisation that provides funding to poor households, failed to raise its targeted amount of VND1 trillion (US$47.7 million) worth of government-backed bonds in an auction and merely managed to sell one-fifth of its total.

The total was distributed equally between three- and five-year tenors, but the former tranche only managed to sell VND200 million from the VND1.51 trillion registered at a yield of 9.79% per annum, while the latter tranche failed to raise any funds on higher yield expectations.

This is clearly an indication that the appeal for these notes has deteriorated in recent months despite being government-backed. That’s thanks in part to the Vietnam Expressway Corporation (VEC) scandal, which has tainted the reputation of these debt instruments.

Since October 2012, giant state highway builder VEC has been facing default in the repayment of some of its mature project bond yields following a move by the Ministry of Finance (MoF) the month before, when it enacted Document 12761/BTC-QLN requiring the company to self-arrange capital sources for payment of mature bond yields to Japan-based Dai-i-ichi, a life insurance company.

The decree stipulates that in order to get the guarantee from the government, the bond issuer must make profits in the last fiscal year. However, this is proving to be difficult for VEC, which is still in the very early stage of investment.

By mid-October 2012, VEC owed a total VND516.1 billion to creditors, including VND100 billion principle and VND416 billion mature bond yields on a lending package worth VND4.4 trillion with MoF acting as underwriter to raise capital for carrying out Cau Gie-Ninh Binh and Noi Bai-Lao Cai highway projects.

VEC is clearly burdened by a sizable amount debt and the fact that it still has not managed to generate returns yet is a concern to investors who might not see the return of their principal and interest payments.

And while it is the norm that a government should step in upon the default of these instruments, this is not true in the case of Vietnam. Last February, near-bankrupt state-owned Vietnam Shipbuilding Industry Group – also known as Vinashin – forced banks to restructure its loans due to long-term delays in debt repayment and lack of government support, although these bonds were deemed ‘government-backed’.

This is not at all reassuring and suggests that the nation does not possess comprehensive guidelines to how it should tackle a ‘bond gone bad’ situation.

According to the Asian Development Bank (ADB), the settlement of default in bond transactions which trade on exchanges has not occurred yet. Also, in Vietnam, there is no precedent of a default of a corporate issuer in interest and principal settlement.

These are worrying signs. Vietnam could risk losing its recently gained investor interest.

In order to reinstate investor confidence towards government-backed securities – or any other domestic debt instrument for that matter – it is essential that the Vietnamese government put proper protocols in place to boost balance sheet transparency as well as do proper due diligence exercises on these organisations’ before extending guarantees.

At least this will ensure that the state-owned enterprises that investors are supporting are creditworthy entities.

One way to do this is via the establishment of a reliable domestic credit rating agency. This will be beneficial for the overall development of the nation’s bond market as the organisation will be involved in the proper rating selection, which includes information gather, analysis and monitoring of the financial health of an issuing entity.

Vietnam’s first credit rating agency, Vietnamnet Credit Ratings Centre opened in June 2005, but discontinued its operations after less than one year. Alternatively, the nation could permit a number of foreign reputable credit rating agencies to conduct credit rating activities domestically.

In addition, clear and concise procedures need to be established to handle a possible default scenario in order to protect the lawful rights and interests of investors like proper bond documents containing covenants and relevant default clauses specific to the bond issue.

While the MoF is approaching all this in a ‘trial and error’ fashion – like in the case of VEC and tweaking the law a little so that future organisations comply with the new ruling – it is a positive sign that the government is making an effort to complete the legal framework and improve the supervision of the domestic capital market.

But if Hanoi wants the Vietnam’s bond market to grow in line with its regional peers, it needs to stop hesitating and crack down hard and fast on transparency and disclosure to boost investor confidence. Until accurate data becomes freely available, the country will continue to stagnate as others around it flourish.

18 Mar 2013