Borrowers in emerging markets “haven’t got away” so deleveraging by traditional lenders such as Western commercial banks has left a wealth of opportunities in some areas, David Creighton, president and CEO of emerging markets investment manager Cordiant, said in an interview.
Cordiant was founded in 1999 and it offers loans to companies in emerging markets, with funds gathered from investors largely located in developed markets. It follows the investments of regional development banks and it sometimes partners with them.
“With traditional lenders, Western commercial banks, reducing their appetite, some of the slack has been taken up by official institutions but there really is still quite a significant gap,” Creighton told Emerging Markets.
“At the same time, because of the supply-demand balance being where it is, the pricing for these deals is staying at the upper end of the range we’ve seen over the last couple of years.”
Returns for his fund have increased after the crisis, because the supply of projects that need financing in emerging markets keeps increasing and demand from commercial banks that are deleveraging has decreased, so the price of the loans stays high, he said.
Before the crisis, average returns on loans extended by Cordiant were Libor plus 3% or 3.5% but now they have increased to Libor plus 5% or 5.5%, according to Creighton.
“I think it [this level of return] will stay in place for a year or so because it takes time to take up that flak,” he said. “It’s not something that you can serve like the bond market, get in quickly and get out quickly; this moves much more slowly.”
COUNTRIES, SECTORS
Some parts of emerging markets have been able to withstand deleveraging by Western banksbetter than others.
Brazil has “a reasonably good banking system” and Brazilian commercial banks are stepping up to replace the retreating European banks; the situation is to a certain extent similar in India and certain countries in south-east Asia, said Creighton.
“So there are pockets where the local banking system is able to pick up some of the flak but the rest of the world is pretty slim,” he said.
“South Africa is pretty good but across large swaths of Africa there is real demand, then you go across Eastern Europe and Russia, certainly there are a lot of opportunities there as well. You get into Central America, even Mexico... there are a number of different opportunities.”
Cordiant’s Emerging Loan Funds have invested $1.7 billion since 2002 in 166 loans to 141 borrowers in 52 countries and 30 sectors.
Between 35% and 40% of the deals Cordiant did are in infrastructure, Creighton said.
“Where we find the greatest resilience in the portfolio, the strongest types of deals are in those companies that are largely catering for local consumption, particularly if you look across Africa,” he said.
Basic industries, electricity, financial services for local consumption, are sectors that the fund focuses on, because the middle class is growing and that offers many opportunities.
‘SAFE HAVENS’ AND RISK
He noted that development banks such as the EBRD or the Asian Development Banks had loans worth $5 billion around 10-12 years ago and now their portfolio is close to $35 billion.
“By tapping into their deal flow we are largely mitigating the sovereign risk, which means we are able to focus on the strong credits,” said Creighton.
The eurozone debt crisis has changed investors’ way of looking at emerging markets, with some even being seen as safe havens that offer higher yield than traditional destinations for flights to safety such as US Treasuries, UK Gilts or German Bunds.
However, Creighton said the phenomenon was temporary as the moves have been exaggerated.
“I think the general concept makes sense, but I think it’s gone a little overboard.”
Investors are looking to diversify their portfolios into income-producing assets and they want liquid products; sovereign bonds are perceived as having enough liquidity so “when, inevitably, the market turns, inflation starts to show up again, people can all rush for the exists at the same time,” he said.
“The emerging markets are seen as being a desirable place to go, the balance sheets of countries and companies within those areas are strong and the liquidity is something that everybody needs. But that’s just a short-term phenomenon; I don’t think it can last forever. There’s still risk there.”
Big emerging markets such as Turkey, Brazil, India and even smaller ones like Kenya, Colombia and Peru are places investors have crowded in, he said.