november, 2002 currency and maturity matchmaking: redeeming debt from original sin alejandro werner
TRANSCRIPT
November, 2002
Currency and Maturity Matchmaking: Redeeming Debt from Original Sin
Alejandro Werner
2
• “Under a predetermined exchange rate regime firms will not fully internalize their exchange rate risk and they will be more likely to engage in balance sheet mismatches than under a floating regime” (Martínez and Werner, 2002).
• Therefore the fixed exchange rate regime and the history of macroeconomic instability left the Mexican government and corporate sector with two problems:
1. Original Sin
2. Balance Sheet Mismatches
Motivation
3
Martínez and Werner (2002) “The Exchange Rate Regime and the Currency Composition of Corporate Debt: The Mexican Experience”
• To test the hypothesis that the exchange rate regime affects the perception of the exchange rate risk we used an extension of the model developed by Holmstrom and Tirole (1997) allowing for the possibility of currency mismatches.
• From the model we derived the optimal foreign debt ratio will be given by:
The Exchange Rate Regime and Balance Sheet Mismatches
DebtTotalPbc
DebtTotalSalesDomesticNet
EE
rP
DebtTotalExports
rP
TotalDebtDollarDebt
t
tHH
/)(
* *
32
1
4
1
3 *
t
tH
E
E
r
P
*2 rPH
tiiii
ti
ti
ti
ti
ti
Ti CDMEHADRSizeDSXUSDDUSDD
666543210
(1) (2)
I II I II
USD Debt/Total Debt lagged 0.78*** 0.74*** 0.79*** 0.71***(0.06) (0.07) (0.06) (0.08)
Log of Total Assets 0.04*** 0.01 0.04** 0.01(0.01) (0.01) (0.01) (0.02)
Exports/Total Debt 0.11 0.37*** 0.11 0.32***(0.18) (0.12) (0.18) (0.13)
Domestic Sales/ Total Debt -0.10 -0.05 -0.10 -0.020(0.09) (0.07) (0.09) (0.08)
Average Growth Rate of Sales 0.03 0.01(0.05) (0.14)
ADR´s dummy -0.05 0.01(0.10) (0.06)
Holding dummy 0.01 0.08(0.04) (0.06)
Sample Size 209 137 205 119LR Chi2 211.69 137.79 207.7 113.91Prob > Chi2 0.00 0.00 0.00 0.00Pseudo R2 1.33 1.14 1.34 1.10
F 0.98 8.29 0.97 4.42Prob > F 0.32 0.00 0.33 0.02
A constant is included, but not shown.Standard deviation in parenthesis.I: 1994-endogenous variable and 1992-exogenous vars. II: 2000-endogenous variable and 1996-exogenous vars.ADR's dummy=1 since the first filing date of ADR's or bonds in the USA.* Significant at 10% ** Significant at 5% *** Significant at 1%
USD Debt / Total Debt(1) (2)
I II I II
USD Debt/Total Debt lagged 0.78*** 0.74*** 0.79*** 0.71***(0.06) (0.07) (0.06) (0.08)
Log of Total Assets 0.04*** 0.01 0.04** 0.01(0.01) (0.01) (0.01) (0.02)
Exports/Total Debt 0.11 0.37*** 0.11 0.32***(0.18) (0.12) (0.18) (0.13)
Domestic Sales/ Total Debt -0.10 -0.05 -0.10 -0.020(0.09) (0.07) (0.09) (0.08)
Average Growth Rate of Sales 0.03 0.01(0.05) (0.14)
ADR´s dummy -0.05 0.01(0.10) (0.06)
Holding dummy 0.01 0.08(0.04) (0.06)
Sample Size 209 137 205 119LR Chi2 211.69 137.79 207.7 113.91Prob > Chi2 0.00 0.00 0.00 0.00Pseudo R2 1.33 1.14 1.34 1.10
F 0.98 8.29 0.97 4.42Prob > F 0.32 0.00 0.33 0.02
A constant is included, but not shown.Standard deviation in parenthesis.I: 1994-endogenous variable and 1992-exogenous vars. II: 2000-endogenous variable and 1996-exogenous vars.ADR's dummy=1 since the first filing date of ADR's or bonds in the USA.* Significant at 10% ** Significant at 5% *** Significant at 1%
USD Debt / Total Debt
5
Rolling coefficient of cash flows
Iit/Kit-1 = a0 + a1(CFit/Kit-1 ) + a2(Investment Opportunities)+ vit
-0.15
-0.05
0.05
0.15
0.25
0.35
90
-93
91
-94
92
-95
93
-96
94
-97
95
-98
96
-99
97
-00
SmallMediumLarge
0
0.05
0.1
0.15
0.2
0.25
0.3
90
-93
91
-94
92
-95
93
-96
94
-97
95
-98
96
-99
97
-00
Sometime ADRNever ADR
0
0.1
0.2
0.3
0.4
0.59
0-9
3
91
-94
92
-95
93
-96
94
-97
95
-98
96
-99
97
-00
AllExportingNon Exporting
6
• The main conclusion of these results is that flexible exchange rate regime helps solving the problem of balance sheet mismatches.
• However, there is still the need of domestic debt markets to finance the non-exporting sectors.
• … HOW?
Motivation
7
• There are two main risks of peso debt:
1. Nominal or the risk of a nominal devaluation and it is faced by every investor.
2. Real exchange rate devaluation risk, that is only faced by foreign investors. This risk could be in principle diversifiable by holding a portfolio with instruments denominated in different currencies.
• Under this conditions it is important to take in the advantage of having domestic investors.
• The rest of the presentation will present the development of the long term debt market in Mexico and how it has been achieved.
The Development of Peso Long Term Market in Mexico
8
Even though the “Original Sin” problem has declined in Mexico it is still present, both for the government and the corporate sector
Outstanding Corporate Dollar Debt /
Long Term Corporate Debt *New Issuance of Corporate Debt with Maturity Longer than 1 Year in USD,
Government New Issuances with Maturity Longer than 1 Year
(USD Debt / Total)
0
1
2
3
4
5
6
7
8
19
91
19
92
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
0
10
20
30
40
50
60
70
80
90
100Value
Percent
Billions of USD% of Corporate
LT Debt
0
1
2
3
4
5
6
7
8
19
91
19
92
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
0
10
20
30
40
50
60
70
80
90
100Value
Percent
Billions of USD% of Corporate
LT Debt
0.0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1.0
19
91
19
92
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
Mean
Median
* Includes Bank Credit
0.0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1.0
19
91
19
92
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
Mean
Median
* Includes Bank Credit
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
19
97
19
98
19
99
20
00
20
01
No
v-0
2
Pe
rce
nt
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
19
97
19
98
19
99
20
00
20
01
No
v-0
2
Pe
rce
nt
9
Regarding bank credit, we don’t observe a significant improvement and Mexican banks have not really given new credit.
* Does not include credit in restructuring programs
Outstanding Bank Credit (Millions of 94 Pesos)*
0
50,000
100,000
150,000
200,000
250,000
300,000
350,000
400,000
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
0
50,000
100,000
150,000
200,000
250,000
300,000
350,000
400,000
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
10
The Mexican fixed income market has improved thanks to five actions.
1. In 1995 the government started issuing inflation indexed debt and then in 2000 a 3 year bond with a fixed yield in pesos.
Average Maturity of Government Debt (Days) Government Debt Composition by Maturity
23
0 28
8
28
3
38
0 42
3
55
9
53
9
74
4
83
8
0
100
200
300
400
500
600
700
800
900
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
Oct
-02
23
0 28
8
28
3
38
0 42
3
55
9
53
9
74
4
83
8
0
100
200
300
400
500
600
700
800
900
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
Oct
-02
0.00
0.10
0.20
0.30
0.40
0.50
0.60
0.70
0.80
0.90
1.00
1Y
ea
r o
r L
ess
3Y
ea
rs o
rM
ore
,In
de
xed
to I
nfla
tion
3Y
ea
rs o
r
Mo
re,F
loa
ting
Ra
te
3Y
ea
rs o
rM
ore
Fix
ed
Yie
ldin
Pe
sos
19931997Sep-02
0.00
0.10
0.20
0.30
0.40
0.50
0.60
0.70
0.80
0.90
1.00
1Y
ea
r o
r L
ess
3Y
ea
rs o
rM
ore
,In
de
xed
to I
nfla
tion
3Y
ea
rs o
r
Mo
re,F
loa
ting
Ra
te
3Y
ea
rs o
rM
ore
Fix
ed
Yie
ldin
Pe
sos
19931997Sep-02
11
Yield Curve by Maturity (days) Traded Volume by Maturity (Millions of 1996 Pesos)
1.(cont) In May 2000 the Mexican Government issued a 5 year bond and in July 2001 a 10 year one, both with a fixed yield in pesos.
0
5
10
15
20
25
28
91
18
2
36
4
10
80
18
00
25
20
36
00
1997
2000
Oct-02
0
5
10
15
20
25
28
91
18
2
36
4
10
80
18
00
25
20
36
00
1997
2000
Oct-02
0
200,000
400,000
600,000
800,000
1,000,000
1,200,000
19
96
19
97
19
98
19
99
20
00
20
01
No
v-0
2
Less than 1 Year
3 Years or More FixedYield in Pesos *3 Years or More, Floating
Rate
* Fixed Yield in Pesos' Bonds account for 89%
0
200,000
400,000
600,000
800,000
1,000,000
1,200,000
19
96
19
97
19
98
19
99
20
00
20
01
No
v-0
2
Less than 1 Year
3 Years or More FixedYield in Pesos *3 Years or More, Floating
Rate
* Fixed Yield in Pesos' Bonds account for 89%
12
1.(cont) The corporate sector followed the government fixed income market.
• Inflation indexed corporate debt started in 95, but it started to gain importance in 99.
Issuance of Corporate Long Term Debt
Firms Value* Average Yield Firms Value* Average Yield1999 10 3,650 9.27 - - -2000 12 14,035 8.39 1 1,000 15.602001 4 2,545 8.92 4 2,465 15.772002 1 425 6.50 10 7,891 10.50* Millions of Pesos
Inflation Indexed Pesos
13
2. The figure of market makers was introduced in the domestic fixed income market during 2000, since then the liquidity increased significantly. But more importantly these participants were crucial for the introduction of longer term instruments.
Average Weekly Traded Volume Before and After the Figure of Market Makers by Maturity
(Millioms of Pesos)
0
5,000
10,000
15,000
20,000
25,000
30,000
0-28 70-92 150-183 343-364 1092-
1820
Before
After
0
5,000
10,000
15,000
20,000
25,000
30,000
0-28 70-92 150-183 343-364 1092-
1820
Before
After
14
3. A more flexible instrument for corporate debt was created in 2001, the Certificado Bursátil (Stock Market Certificate, SMC).
3. This certificate combines an easy issuing process with the possibility of including any type of covenant to protect the bond holder.
4. It represented 13% of total corporate debt issuance in 2001 despite it started to operate in August.
5. By November 2002 the issuance has reached more than 3 billion USD with low yields and long matutiry.
Characteristics of SMC Issuance
Fixed Rate in
Total Pesos
Interbank Interest Rate ** T-Bills *** Total Pesos UDIS
Interbank Interest Rate ** T-Bills ***
Firms 9 4 4 5 28 10 1 5 19Total Value (US$)* 1,552 514 377 661 3,339 948 45 127 2,156
Maturity (Days) 1684 1815 1108 1821 1646 1597 1800 1555 1776Average Yield or Spread (%) 11.64 0.99 1.17 10.35 6.50 2.43 1.29
* Millions** TIIE*** CETES
Floating Rate Priced on Fixed Rate in Floating Rate Priced on2001 2002
15
4. The macroeconomic stability
Inflation rate decreased from 51.97% in 1995 to 4.9% in 2001.
The nominal interest rate decreased from 48.54% in 1995 to 12.19% in 2001, while the ex ante real interest rate declined from 8.60% to 4.98% in the same period.
Regarding economic growth it improved from –6.17% in 95 to –0.31% in 2001, despite the negative international environment in this last year.
5. The developement of the derivatives market.
Institutional investors have supported the development of long term warrants. In 1997 there were very few products and the spreads were very high.
In 2000 the spread for the three year exchange rate forward was 10 bp thanks to the liquidity conditions on the three year bond in pesos. This year, despite the international volatility, the spread has been close to 6 bp.
There are interest rates swaps in pesos, where the spread for the 3 and 7 years is less than 15 and 20 bp respectively. There are TIIE- Libor swaps up to five years with an spread of 10 bp.
16
But also, and very importantly, for the developement of the Mexican pension funds,
Share of Public Debt Held by Institutional Investors
Assets Managed by Institutional
Investors
0
100
200
300
400
500
600
700
1998 1999 2000 2001
Mutual Funds
Insurance Companies andPension Funds
Siefores
0
100
200
300
400
500
600
700
1998 1999 2000 2001
Mutual Funds
Insurance Companies andPension Funds
Siefores
0
10
20
30
40
50
60
1998 1999 2000 2001
Pe
rce
nt
0
10
20
30
40
50
60
1998 1999 2000 2001
Pe
rce
nt
17
... which explains the decline in the importance of foreign participants in the Mexican fixed income markets.
Domestic Participation in Government Debt Market (Billions of Pesos Dec. 2000)
0
100
200
300
400
500
600
700
800
900
1000
1994 1995 1996 1997 1998 1999 2000 May-
01
Foreign Investors
Domestic Investors
0
100
200
300
400
500
600
700
800
900
1000
1994 1995 1996 1997 1998 1999 2000 May-
01
Foreign Investors
Domestic Investors