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The weaker pace of global growth continued into the first half of 2019, but the IMF reports that advanced economies, including two of the Caribbean’s major trading partners, performed stronger than expected despite escalated trade and technology tensions, and the sustained ambiguity surrounding the nature of Brexit. US real GDP growth accelerated to an annualized rate of 3.1% during Q1 2019 compared to 1.1% during the previous quarter, bolstered by increased inventory investment and an improved net export position. Similarly, inventory accumulation likely associated with preparations for Brexit at that time, particularly in the manufacturing sector, led to a 1.8% y/y expansion in UK output compared to 1.2% y/y during Q4 2018. Meanwhile, economic growth in Canada remained subdued, with real GDP growing at an annualized rate of 0.4% in Q1 2019 compared to 0.3% the previous quarter as a contraction in exports largely offset increased household spending and business investment. The Venezuelan economy continued to shrink and worsened amid oil sector sanctions. Finally, although oil prices trended upward through April 2019, the price of WTI crude oil has since declined to US$55 per barrel at the end of August 2019, likely reflecting anemic demand and fears of a further global slowdown.
The performance of the Caribbean thus far in 2019 has mostly reflected the outturn of the region’s major trading partners, the continued recovery from the 2017 hurricanes and ongoing fiscal consolidation. Following 2018’s performance when real GDP expanded in all markets except Curaçao, Sint Maarten and Barbados, preliminary indicators for 2019 suggest improved prospects for Sint Maarten. However, despite a strong tourism outturn, real GDP growth in Barbados remained subdued during H1 2019 as activity in all other sectors either declined or remained flat, while the ongoing refinery challenges in Curaçao are likely to restrict economic growth. Tourism, the region’s major engine of growth registered gains across all dependent markets except in Bermuda, where arrivals slipped for the year-to-date. Specifically, stay-over arrivals to hurricane-hit Anguilla, Dominica and Sint Maarten rebounded following double-digit declines one year earlier, while all other markets sustained a robust growth momentum. Overall, stay-over arrivals advanced 17.8% y/y during Q1 2019 compared to a 0.7% fall-off during Q1 2018. Further, while the US market generally continued to register a strong performance, UK arrivals to Barbados and the Organisation of Eastern Caribbean States (OECS) strengthened during Q1 2019 following a flat performance one year earlier, likely buoyed by the England Cricket tour to those islands during the period. Meanwhile, commodity producers have registered a mixed performance thus far in 2019.
Efforts to reduce fiscal imbalances are progressing in most regional markets. Those governments with the highest debt-to-GDP ratios – Barbados (124%) and Jamaica (95%) – are engaged in targeted programs with a path set to reach 60% by 2033 and 2026, respectively. Similarly, those with the lowest debt ratios – the Cayman Islands (13%) and the Turks and Caicos Islands (less than 1%) – continue to record improved fiscal surpluses, with progress toward reducing debt even further. While public debt in Aruba, Belize, and Trinidad and Tobago remain elevated, fiscal deficits have narrowed, and the Bahamian government made good progress in meeting its fiscal targets. However, while the ECCB has set a target of reducing public debt to 60% by 2030, debt rose in all but three markets. Further, the two OECS markets with the highest debt levels – Antigua and Barbuda and Dominica – experienced wider fiscal deficits due to increased spending in the aftermath of the 2017 hurricanes.
Caribbean Market Review
As investors continued their search for yield, the confirmation and expansion of monetary policy easing cycles across developed economies favoured emerging market credits since our last publication. Despite the favourable monetary policy environment, investors hit large road bumps as the US-China trade feud turned sour once again. We expect geopolitical tensions to keep volatility in emerging assets high as markets await the resolution of Brexit and the US-China trade battle and as the electoral cycle kicks off in the US. Nevertheless, as rates drop further in advanced economies and negative-yielding assets increase in volume, we expect emerging market credits with solid macro fundamentals to outperform, while we foresee a bumpy road ahead for higher and speculative-yielding credits.
In line with the global monetary policy easing trends, shorter maturity bonds in Central America and the Caribbean outperformed since our last publication (May 23). Nevertheless, we point out that despite the positive performance, we saw investors moving away from risky assets in August as trade and growth concerns increased. With financing concerns out of the way, ELSALV short-end led the pack, with yields dropping over 90bps on average. PANAMA also posted a good performance as yields dropped 88bps on average during the same period. The country’s high growth and relatively low fiscal deficits in the regional investment grade space made PANAMA one of the market’s favourites once again. Similar to ELSALV, and although enjoying a decent performance over the last three months, we saw a worsening in the COSTAR curve in August as the government’s ability to meet its fiscal targets was questioned against a backdrop of concessions to unions, lower growth prospects, and the uncertain external environment. DOMREP remained mid-table, with yields dropping 70bps on average as the market watched the unfolding of electoral uncertainties and tourism sector news.
In COSTAR, recent government concessions to unions will likely jeopardise the fiscal goals set by the government after the approval of the tax reform in November. We expect the short-end of the COSTAR curve to reflect political turmoil, increasing concerns about the government’s ability to meet its fiscal targets this year, lower growth prospects, and diminishing odds of external debt issuance approval in 2020. From a relative value point of view, we expect ELSALV 25 to trade at a spread of 30bps over COSTAR 25. This plays the spread-lows seen in early August and takes advantage of the lack of significant political news in El Salvador until the budget and external debt issuance discussions at the end of 2019. Here, President Bukele appears to have a head start as his popularity and high approval levels give him some leverage to negotiate alliances into next year.
In Panama, we expect concerns regarding fiscal accounts and slower economic growth to temper the recent strength of the PANAMA curve for the remainder of 2019. Nevertheless, as the new administration recognizes some fiscal slippage and promises fiscal adjustment measures for the rest of the year, while growth rebounds in tandem with the start of Minera Panama’s production, we expect PANAMA to provide excellent entry opportunities for those still hungry for yield in the investment grade space.
In the Dominican Republic, President Danilo Medina ran out of time to find consensus to approve a constitutional amendment in late July that would have allowed him to run for a third consecutive time. Getting enough votes for a constitutional amendment could have resurfaced corruption allegations, increased DOMREP volatility with rising electoral uncertainty, and ignited concerns of further fiscal slippage on an already high fiscal nominal deficit (2.8% of GDP, 1.1 p.p. above the 2019 target). Moreover, Medina’s candidacy could have accelerated the PLD’s breakdown, improving Luis Abinader's (PRM) odds ahead of the 2020 election. Although division within the PLD is evident, with Medina not supporting Leonel Fernandez’s candidacy, the initial market impact of Medina desisting to pursue a constitutional amendment was marginally positive as Fernandez leads the latest polls, signalling a continuation of macroeconomic policies. Nevertheless, we expect volatility to resurface ahead given the fragmented support of Fernandez’s candidacy within his own party. For now, we recommend reducing exposure to the belly of the curve as local political turmoil increases. The DOMREP curve has already lagged the positive performance of similar credits in the region since the start of June, reflecting fiscal concerns and tourist deaths that have impacted foreigner arrivals in Q3 2019. We expect this situation to continue for the remainder of the year.