Friday, 24 May 2024 02:22

Moody's Ratings upgrades El Salvador's credit rating

Written by Denis Muñoz
Moody's Ratings upgrades El Salvador's credit rating Courtesy

Moody's Ratings today upgraded the long-term foreign currency issuer and senior unsecured debt ratings of the Government of El Salvador by 2 positions from Caa3 to Caa1.

 

 

The upgrade is due to a significant decrease in credit risks, from very high-risk levels, for the sovereign as liquidity stress is less likely to occur. Liability management operations that included a debt repurchase in april 2024 have significantly reduced external debt amortizations until 2027.

In addition, the government has managed to extend the maturity profile of its domestic debt, decreasing its reliance on short-term instruments by issuing longer-term notes to local banks, and debt restructuring operations, coupled with moderate and relatively stable fiscal deficits, have reduced the government's overall financing needs.

El Salvador's Caa1 rating continues to incorporate weak institutions and governance, as well as a relatively high susceptibility to event risk, reflecting the government's limited access to cross-border financing.

The stable outlook balances positive developments that have led to a more favorable debt profile, which could more significantly reduce liquidity-related credit risks than currently assessed, as well as substantial improvement in domestic safety and security that could support higher investment prospects and stronger economic growth, against continued credit challenges that weigh on El Salvador's credit profile and pose downside risks, including limited fiscal space, low debt affordability, and the lack of a fiscal and financing strategy that effectively addresses elevated financing costs and identifies accessible funding sources to meet medium-term repayment needs.

In parallel, El Salvador's foreign currency ceiling was raised to B2 from Caa1, maintaining a two-level gap between the sovereign rating and the foreign currency ceiling to reflect low policy effectiveness, low capital account openness, and the government's relatively large share of the country's total external debt. Moody's does not assign a local currency ceiling for El Salvador because the country is fully dollarized.

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Motivation for upgrade to caa1

Reduced risk of a credit event related to liquidity stress because of reduced external debt amortizations through 2027.

The short-term risk of a credit event for El Salvador has materially decreased and external maturities through the end of 2027 are now low. On april 19, the government completed a restructuring operation where it repurchased a portion of its 2025, 2027 and 2029 global bonds through a tender offer in which investors were offered prices slightly above the prevailing market price at the time of the announcement of the offer.

In parallel, the government issued a US$1 billion bond maturing in 2030 that helped finance the buyback and provided additional funds for general budget support. The bond was issued below par to yield around 12%, demonstrating access to the market at a high, but not distressed, level of yield, which supported Moody's decision not to consider the buyback as a distressed swap, in addition to Moody's view that the transactions were akin to a liability management transaction given that, without them, the government would likely have met its near-term financial commitments.

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The new issue consisted of two instruments issued jointly. First, the 2030 notes mentioned above and, second, interest-only notes (formally Macro Step-Only Floating Rate Notes). The interest-only notes will pay a coupon of 0.25% until october 2025, when the sovereign must meet a "macro test" by either signing a program agreement with the IMF or achieving a B2 or B credit rating from two of the three major rating agencies. If the sovereign meets either condition, the coupon on the interest-only notes will remain at 0.25%. If the sovereign does not meet either condition, the coupon increases to 4%. The macro test is conducted every six months until the final maturity date of april 2030.

El Salvador's funding capacity remains limited, but new financing options have opened up with access to international capital markets and improved market sentiment. Overall, the april transactions helped the sovereign regain market access and reduce its funding needs through 2027, while keeping liquidity risks under control. Repayment risk on the 2025 bonds has decreased substantially given the small principal amount outstanding, leaving only $99.6 million in principle at face value. In addition, the government has set aside part of the proceeds from the april bond issue to cover the remaining principal amount of the january 2025 bond. The improved external amortization profile supports a lower repayment risk.

 

Translated by: A.M