Country risk premia quarterly update

Risk in Sub-Saharan Africa catching up with the Middle East

After the Arab Spring saw the Middle East become the riskiest of the seven regions recorded in our country risk model in 2011, Sub-Saharan Africa is now closing the gap. The region was one of only two to not see its risk levels decline in the first quarter of 2013 as political risk issues rose to the fore. Kenya's electoral process suffered severe criticism and security measures were heightened following the unrest in Mali, Somalia and Algeria. But, the region has also seen some success stories: Burundi’s Country Risk Premium (CRP) fell by over 1% on the extended mandate of United Nation Peacekeepers and renewed negotiations between the government and the opposition group in preparation for the 2015 presidential elections.

The Eurozone periphery recovers while economic clouds gather over the UK

The past three months has seen pressure ease on the Southern European bonds. The markets continue to take at face value the commitment by Mario Draghi, President of the European Central Bank (ECB), to do "whatever it takes" to support the Euro, proving resilient despite the turmoil in Cyprus. Falling yields have been most noticeable in Greece, whose CRP fell by over 10%, with Portugal, Ireland and Spain close behind. For the first time in years, Ireland's bond yields also fell below Italy and Spain in the quarter, reflecting the return of the country to the debt markets and an economic growth rate that is expected to outperform the region as a whole in 2013. Across the Channel, economic risks were in focus as Moody's stripped the UK of its AAA credit rating and the Chancellor downgraded the UK's growth expectations in the Budget.

Creditworthiness in Latin America questioned in Q4

Despite achieving a strong economic bounce-back since the financial crisis, Latin America endured a challenging end to 2012. Economic growth suffered in the region's largest economy, Brazil, as slow credit growth and weak investment have meant that its economy barely grew in 2012. And sovereign default concerns continue to plague other economies in the region. In Argentina, a US court ruling may force a sovereign default in 2013. Standard and Poors (S&P) currently considers the Belize government in breach of its obligations, with restructuring arrangements currently being negotiated with creditors. These pressures were reflected in higher country risk levels in Q4 - with the regional average Country Risk Premiums (CRP) increasing by 0.5% from Q3.

Contrasting risk factors on either side of the Atlantic.

Q4 marked another step in the sovereign debt crisis in the Eurozone. As the final touches on the Spanish bank bailout and a new Greek aid deal were put in place, our country risk model shows risks across the region receding, with Greek, Italian and Spanish Country Risk Premiums (CRPs) all falling to their lowest level since the start of 2012 . On the other side of the Atlantic, the economic outlook weakened in the face of bipartisan bargaining over the US' "Fiscal Cliff", with the yield on 10-Year Treasury bonds gradually trending upwards since mid-2012. We continue to recommend a careful consideration of country risk in the Eurozone in 2013, as political and economic risk factors continue to evolve. In Q1 2013, investors' attention will likely turn to the results of the February general election in Italy and the performance of the Greek economy in the face of further austerity measures.

Risk levels in Western Europe eases

The recent trend of rising country risk in Western Europe went into reverse in Q3 as peripheral Eurozone bond markets benefitted from the announcement that the ECB will undertake unlimited purchases of sovereign debt if required. Since the last quarter, 10-year spreads over Bunds have fallen by between 1.0-1.5% in Spain and Italy and by much further in Ireland, Portugal and Greece.

Hotspots of political tension in the Middle East remain

Country risk in the MENA region fell over the quarter as the region benefitted from a tightening in global capital market spreads. However, hotspots of political tension remain - particularly in Egypt, Libya and Afghanistan where political institutions are still in their infancy. According to our model, MENA is now the riskiest region globally - replacing Sub-Saharan Africa in Q3.