By Paul Wallace May 30, 2019, (Bloomberg)
The spread on the copper producer’s $750 million of debt maturing in September 2022 rose above 2,000 basis points this week. At 22%, the yield was 20 percentage points more than U.S. Treasuries of an equivalent maturity.
These are levels almost unheard of in the bond world. Only nations already in default, such as Venezuela, have dollar spreads and yields as high as Zambia’s. Argentina is in the second-worst position among emerging markets still current on their Eurobonds, according to JPMorgan Chase & Co.’s indexes, and its average spreads are roughly half Zambia’s.
It would be a bold move for any investor to buy Zambian assets. Moody’s Investors Service last week downgraded the country to Caa2 — eight steps into junk. The economy is forecast by the International Monetary Fund to grow 2.3% in 2019, the slowest pace in more than two decades, and reserves have fallen 50% in the past three years to just $1.4 billion. The government’s attempt to seize copper mines from Vedanta Resources Ltd. has only added to investors’ unease.
“Investing in Zambia’s high-beta Eurobonds is fraught with default risk,” Gregory Smith, a fixed-income strategist at Renaissance Capital, wrote in a note on May 24. “We do not think the government will default on the Eurobond coupons in 2019, especially as half the $237 million of coupons due in 2019 has been paid. However, recent events do increase the probability of default in 2020 and in subsequent years.”
Some investors think prices are cheap enough to justify the risks. The 2022 bond rose 3 cents to 65 cents on the dollar as of 12:33 p.m. in London, reducing the spread to 1,837 basis points and the yield to 20.4%. Zambia’s $1 billion of 2024 securities climbed 2 cents to 66.
Zambia probably needs a combination of an IMF bailout, a credit line from China’s central bank, and a restructuring of loans from Chinese lenders for the government to avert a debt crisis, according to Smith. He estimates a recovery rate of between 60 and 74 cents on the dollar if President Edgar Lungu’s administration does default, which it has repeatedly said it can avoid.
Finance Minister Margaret Mwanakatwe told state TV Wednesday that Zambia had made progress in talks with China to convert dollar debt into yuan. She also said the Zambian and Chinese central banks were working on a memorandum of understanding, without giving further details.
“It would take rising domestic pressures to shift this government from complacency to urgency,” said RenCap’s Smith. “High Eurobond yields, or market pressures, would never be enough. For government to stop signing new loans and cutting ribbons on new infrastructure projects, they would need to feel domestic economic and political pressures.”