- Philippines, Indonesia, Thailand, South Korea see credit default swap rates climb
According to Nikkei Asia’s article published on November 2, 2022, the sharp decline of Asian currencies has sparked concerns within global financial markets over rising debt burdens among regional governments and corporate borrowers.
Asian countries are raising policy rates at a slower pace than the U.S. That, combined with deteriorating trade balances, has caused some Asian currencies to depreciate 10% or more against the dollar since the end of March.
The South Korean won has declined by 17% against the greenback during those seven months. The Philippine peso took a 12% hit. The Indian rupee is down by 10%, sinking below the level during the 1997 Asian currency crisis.
When the Vietnamese dong depreciated below the currency crisis level, the State Bank of Vietnam widened the daily exchange rate trading band to plus or minus 5% from 3%. The central bank may have faced increasing difficulty in defending the national currency.
Governments and businesses in emerging markets frequently take on debt denominated in the dollar or other foreign currencies. The overall debt in South Korea, India and Thailand is 70% denominated by foreign currencies, according to statistics from the World Bank and the International Monetary Fund. In the Philippines, the share is 97%.
Foreign-currency-denominated debt is preferred over debt denominated by domestic currency because of the typically lower interest rates for the former. On top of that, foreign-currency-denominated debt stands a better chance of drawing investors because of the reduced foreign exchange risk.
The funds raised by issuing debt are commonly converted into local currencies. But when it comes time to pay back the debt, the local currency needs to be translated back to the dollar, for example. If the local currency has grown weak, the government or the company needs to pay more in the local currency to settle the debt.
Amid fears debt obligations will swell, rates for credit default swaps have climbed. These rates serve as barometers for concern over nonpayment of debt.
The costs for five-year credit default swaps for government bonds have started to rise. The rates in the Philippines and Indonesia stand at 1.3% and 1.4%, respectively, more than doubling from the end of March and reaching a high not seen in two and a half years.
The credit default swap rate for South Korean government bonds has hit 0.7%, a level last seen in November 2017.
Credit default swap prices are on the rise for corporate debt too. The spread for the credit default swap index composed of 40 major Asian companies outside of Japan has expanded to an 11-year high of 2.3%.
"Investors are guarding against worsening credit worthiness due to the depreciating currencies," said Toru Nishihama, chief economist at the Dai-ichi Life Research Institute.
Equity markets have been conspicuously lackluster in Asia. The MSCI Asia ex Japan index is down 28% from the end of 2021. That compares unfavorably to the MSCI world index, which is off by 18%.
When these stock trends are paired with heavier debt payment loads, companies will have less access to funds to invest in growth.
For international investors trading in dollar-denominated assets, a drop-off in Asian currency values equates to diminishing dollar-based returns.
"If a currency is anticipated to depreciate, international investors will be less willing to invest in Asian stocks out of concerns over forex loss," said Kota Hirayama at SMBC Nikko Securities.
Because Asia is a global manufacturing center, weaker currencies normally lead to increased exports and improved corporate earnings. But worldwide interest rate hikes have opened up concerns over a recession that would undercut business performance.
In China, a major trading partner for several nations, COVID-related lockdowns have led to an economic slowdown.
Tech companies are known to be highly exposed to economic downturns. The Taiwan Capitalization Weighted Stock Index, which is highly populated with tech companies, is down 29% from the end of 2021. South Korea's benchmark KOSPI index has lost 23% over the same period.
The downward pressure on Asian currencies is not expected to let up in the foreseeable future. The markets are now focused on the declining foreign currency exchange reserves across Asia. South Korea's reserves have fallen about 12% from the peak in July last year. Reserves in India, Indonesia and Malaysia have shrunk about 10% from their peaks as well.
Thailand's foreign currency exchange reserve has dropped 30% below the peak in December 2020. The decline is 20% from the end of 2021. It is assumed that the outcome is the result of Thailand intervening to defend the baht.
Foreign currency reserves are expected to be maintained at certain levels since those funds are also used to pay off foreign debt.
"There could be a limited amount of ammo in substantive terms that can be used for intervention," said Teppei Ino at MUFG Bank.
European financial markets are settling down after Rishi Sunak took over as British prime minister. This could lead to additional pressure on Asian currencies.
"Investors may be directing the focus of sell-offs from Europe to the Asian sphere," said Eiichiro Tani at Daiwa Securities.
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Published on November 2, 2022 6:56 AM (GMT+8)Last Updated on November 2, 2022 6:56 AM (GMT+8)
