Emerging Markets & Credit in Times of COVID-19
Are emerging market institutions; banks, large corporations, etc. ready for the aftershocks of COVID-19? Not something that’s so easy to think about as the home currency gyrates around in crazy ranges with spreads blown out and economies remain on lock-down. But food for thought as the credit crisis may be on its way to more places than most people are expecting.
As economies contract, large banks in the US and Europe are preparing for large credit losses from a range of COVID-19 victims. These will include businesses, and the legions of newly unemployed. While banks are likely to be able to measure the potential for direct losses from these victims, the losses from secondary sources such as suppliers of effected industries will be harder to measure immediately and will become clearer over the next few quarters.
If large banks were as worried as they should be their dividends would have been cancelled already so if you think a dire scenario is priced in, you are sadly mistaken. Depending on how fast we can resume a normal economy these can get pretty ugly (imagine the economic nightmare of 1yr of social distancing) unleashing a financial crisis of sorts where banks start to pull credit from the economy. This has already started to occur with credit card limits, Home equity lines of credit, and other riskier credit categories. European and US banks will also be under enormous “nationalist” pressure to take care of home country first. It’s easy to see that many EM countries are going to get classified as risky credit and there is likely a very disproportionate pull back from that risk given all the above. Countries where geopolitical risk compound the economic one, I expect the pull back to be even greater.
This is my to-do list:
- Focus business with counter parties that would value your business as painful to lose. Some banks are just too large and have so many large western clients that when the going gets tough they are quick to jettison marginal clients.
- This is not the time to be penny wise and dollar foolish. If counter parties view your business as marginally or not profitable the likelihood that you will lose credit access is obviously that much greater.
- Many midsize regional banks in Europe are more likely to value their EM business as they just need it more, seeing how they have already forfeited the large western clients to bulge bracket banks. Picking the right ones that won’t themselves be crippled by domestic credit losses, is key.
- This is no time for vanity relationships just so you can say you have access to some large list of firms that impresses everyone. Stick with those that will stick by you because it’s GOOD for them to do so. Personal relationships just won’t matter in times like these. Credit officers become the “ultimate bosses” of a bank in time of financial stress. Your trader or sales coverage just won’t have as much say as you think.
- Consider prime of prime as a credit outlet. These firms are far smaller and most large EM institutions would be their biggest client. Credit is largely determined by collateral placed, and most of the larger prime of primes have excellent market access to many executing banks. While this is not ideal use of collateral it is an excellent backup widely used during the 2008 financial crisis by many institutions.