Senior Latin American bankers have called for greater international efforts to extend dollar credit lines amid mounting fears that global illiquidity will trigger corporate losses, asset price collapse and economic dislocation in the region. In addition, a consensus emerged that western banks are poised to repatriate capital away from Latin America — which would likely exacerbate the rut in primary market deals.
Fernando Pozo, outgoing president of the Federation of Latin American Banks (Felaban), called on developed governments and multilateral institutions to provide emergency liquidity to the region.
"We need support from western governments and big institutions such as the IMF to help Brazil and Mexico, as well as Central America which is seeing declining remittances, as there could be a contagion effect if we do not provide support," he told Emerging Markets on the sidelines of the Felaban annual assembly in Panama City, this week. The organisation was founded in 1965 and draws membership from around 500 financial institutions in 19 countries.
Pozo welcomed efforts from the Federal Reserve and IMF to provide dollar swap lines. However, he argued that further multilateral assistance across the region was required to boost market confidence. Dollar funds would help corporates in the region rollover their debt and reduce the risk of a run on central bank reserves, he argued.
He said fiscal and monetary authorities had less power to leverage in bad economic times since shallow domestic markets limit capital raising while global bond issuance is currently prohibitively expensive. "There are constraints to issue debt locally so we need to generate a countercyclical policy and the only way we can do is to get help from multilaterals." In addition, Mexico announced a fiscal stimulus package in March but the government’s ability to spend more is ultimately constrained by legislation capping spending.
Banking blues
Despite limited exposure to toxic assets and relatively low foreign currency funding, Latin American banks are facing a liquidity crunch and asset quality deterioration — challenges that will be exacerbated by declining growth in 2009.
Market confidence has also been damaged by recent revelations of corporate exposures to foreign exchange derivatives in Brazil and Mexico.
Pozo predicted scarcer funding sources would trigger consolidation in the market and challenge business models, a trend highlighted by the recent merger of Banco Itaú and Unibanco in Brazil. "Across the world, you are seeing economies of scale now required to be more efficient. When you see the small size of LatAm banks, you realise it is necessary to see consolidation and efficiency to reduce cost to income ratios and increase investment in technology."
Local bankers dependent on wholesale funding admitted that the liquidity squeeze has effectively put a brake on new large loan disbursements this year and will hit revenue growth in 2009. However, Moody’s notes such banks are not threatened by maturing debts over the short term, because most of their refinancing needs are due in 2010 and 2011.
Nevertheless, Sergio Lulio, executive board member at Banco ABC Brasil, is confident: "We rely on wholesale funding and, yes, we have seen more costly foreign funding sources but there is still domestic liquidity to compensate at the moment."
Before the onset of the global credit crunch in August 2007, debt capital market bankers predicted that Brazilian banks would issue a flurry of global bonds over the next two years. Currently, these banks have less than 10% of their funding from foreign sources. But a prolonged liquidity strain will reduce bank profitability and asset base expansion as well as shelving external bond issuance.
In addition, Moody’s in mid-October took negative rating actions on mid-tier banks that rely on wholesale funding in Brazil including Banco BMG, Banco Cruzeiro do Sul, Banco Bonsucesso, and Banco Ibi. Institutions such as Banco BMG have issued short term paper over the past six months but these bonds are now trading at dizzyingly wide levels despite the borrower’s well-capitalised base. As a result, if the primary market eventually opens for sub-investment grade names at the end of next year, extremely high premiums would be demanded above the issuer’s likely desired pricing.
Divestment banking
Representatives of western banks at the Felaban meeting admitted that capital would be repatriated in 2009 to support bank lending in developed markets. "Western banks are unlikely to commit much balance sheet for their Latin subsidiaries given their systemic weakness," admitted the head of Brazil operations at a US firm.
These moves would further raise interbank lending costs and restrict credit lines for trade finance activities. In addition, Citigroup’s share price collapse, and imminent job losses will further restrict credit provision from one of the biggest global players in the region. The beleaguered US bank has revealed that in the third quarter credit costs in Latin America increased by $894 million while net credit losses stood at $105 million — mainly in Brazil and Mexico. The first victims of Citigroup’s restricted financing are likely to be Spanish subsidiaries of US firms, say analysts.
Given the bleak environment for transactional and corporate finance activities, nascent investment banking operations in the region will be hit, fee-hungry US and European bankers admitted in Panama. "Now vanilla products are being reduced and capital is being restricted, we do not have much hope that we will be making any real money in Latin American until maybe 2010," said one debt capital markets banker at a European bank.
One senior LatAm executive at a European bank revealed that aggressive five year investment plans for the region, formalised at the beginning of 2007, were being reduced by senior management in line with belt-tightening measures across departments.
Nevertheless, some bankers at western institutions are confident their pitch, highlighting the relative strength of Latin America’s financial markets, to senior management reviewing emerging market strategies over the next year will be fruitful. They say several years of quality earnings generation have allowed for capital and loss reserve accumulation. And a rebound in commodity prices at end-2009 would boost regional growth.
Meanwhile, Moody’s analysis of loan growth and asset quality trends among Latin American institutions shows "that the banking systems would be capable of withstanding significantly higher delinquency levels without eroding their current capitalisation at a ‘well capitalised’ tier one level of 8%".
Primary market bankers are looking at these macro conditions closely as they advise their issuers of capital raising platforms once capital flight, deleveraging and banking systems become less volatile.