Monday, February 2 2015 16:35
Following Moody's, Fitch downgrades the rating of Armenia, which prepares for a new entry into international capital markets
ArmInfo. Fitch Ratings has downgraded Armenia's Long-term foreign and local currency Issuer Default Ratings (IDRs) to 'B+' from 'BB-'. The Outlook is Stable. The issue ratings on Armenia's senior unsecured foreign and local currency bonds have also been downgraded to 'B+' from 'BB-'. The Country Ceiling has been revised to 'BB-' from 'BB' and the Short-term foreign currency IDR affirmed at 'B', the Fitch report on Armenia says.
The downgrade of Armenia's Long-term IDRs reflects the following key rating drivers and their relative weights:
High. Armenia is highly exposed to the severe economic downturn in Russia (BBB-/Negative), which will weigh heavily on Armenia's balance of payment and growth prospects. The economy is expected to fall into a mild recession in 2015, with risks tilted to the downside given the worsening economic situation in Russia and likely negative impact on external imbalances and further depreciation pressures. The current account deficit is expected to widen again in 2015 as a result of a sharp reduction in both remittances inflows and export demand from Russia. Remittances amount to about 15% of GDP and fell by about 30% during the last months of 2014 as 90% of the total come from Russia. The impact of the fall in oil prices on imports will be largely outweighed by the strengthening of the dollar and a decline in international prices of key Armenian exports. Mining exports, especially copper, account for about half of Armenia's goods exports. Foreign currency reserves at the Central Bank of Armenia (CBA) are expected to continue their downward trend from a relatively low level of USD1.49bn in December 2014. The decline in reserves is primarily due to lower current account receipts and FDI inflows, but also, to a lesser extent, to market intervention by the CBA to limit the depreciation of the Armenian dram. Foreign currency reserves are expected to represent about three months of current account payments in 2015-16, compared with more than four months on average in 2010-13.
Medium. Public debt dynamics are highly sensitive to depreciation risks, as about 80% of public debt is foreign currency denominated. The debt-to-GDP ratio rose to nearly 50% in 2014, primarily as a result of exchange rate depreciation. The ratio is expected to remain broadly stable in the coming years but this assumes a stabilisation of the exchange rate. Risks are to the downside. Fiscal policy has been prudent since 2010, and we expect the government to maintain the fiscal deficit below 3% of GDP. Armenia is highly reliant on Russian gas supplies, remittances and military support, leaving it particularly vulnerable to economic and policy changes in Russia. Armenia's accession to the Eurasian Economic Union in January 2015 will further deepen its economic, financial, political and institutional ties with Russia. Despite recent events in Gyumri, we expect the close bilateral relationship to remain and to continue weighing on Armenia's economic and institutional setting. The financial sector is highly dollarised and will therefore be negatively impacted by the depreciation of the Armenian dram. The depreciation and economic downturn are likely to bring about an increase in non-performing loans and to dent the currently robust capital adequacy ratios. The CBA has increased the minimum capital requirements for banks, which could trigger some consolidation in the sector.
Armenia's 'B+' IDRs also reflect the following key rating drivers: The CBA raised its refinancing rate twice in recent months to 9.5%. The Armenian dram depreciated by 17% in 2014. Inflation is expected to pick up to 6.5% in 2015 (CBA target range: 2.5%-5.5%) as a result of higher import prices, although relatively moderate pass-through effects should contain the impact. Armenia benefits from an IMF Extended Fund Facility for 2014-17 worth USD119.1m, which acts as a policy anchor.
Armenia is expected to continue fulfilling the performance criteria and to continue to enjoy support from major international financial institutions, primarily to finance large infrastructure projects. Armenia's business environment compares favourably with rating peers, as illustrated by the World Bank's ease of doing business indicators. Armenia's geopolitical environment is a constraint on the rating. The latent conflict with Azerbaijan over the disputed Nagorno-Karabakh region entails the risk of escalating into a full-scale conflict. No resolution is expected in the short term.
The main risk factors that, individually or collectively, could trigger negative rating action are: - Bigger than expected negative spill-over effects from economic and political developments in Russia affecting GDP growth, external receipts and the exchange rate. - A continuation of the weakening of external reserves, leading to a deterioration in solvency and liquidity ratios. - Material fiscal slippage leading to a significant rise in the debt/GDP ratio.
The main risk factors that, individually or collectively, could trigger positive rating action are: - Reduced risks emanating from Russia leading to an easing of external pressures. - A decline in the debt-to-GDP ratio closer to the peer median. - An easing of the tensions with Azerbaijan and an improvement in relations with other neighbouring countries.
The ratings and Outlooks are sensitive to a number of assumptions: Fitch assumes that Armenia continues to enjoy broad social and political stability, and that there is no significant worsening in tensions with Azerbaijan surrounding Nagorno-Karabakh. Fitch assumes continuation of good relations with Russia, given the importance of this relationship both economically and diplomatically. Fitch assumes that the global economy performs broadly in line with Fitch's Global Economic Outlook and that the US Federal Reserve exit from monetary stimulus is orderly, so that Armenia retains some external market access despite higher international financial volatility.
To recall, on January 15 Moody's Investors Service downgraded Armenia's issuer and government bond rating to Ba3 from Ba2, and changed the outlook to negative from stable. Moody's reports that the key drivers for the downgrade are the following: 1) Armenia's increased external vulnerability due to declining remittances from Russia, an uncertain outlook for foreign direct investment (FDI), an elevated susceptibility to exchange rate volatility, and expected pressure on foreign exchange (FX) reserves; 2) The country's impaired growth outlook, compounded by negative growth spillovers from Russia, weak investment activity, and constraints on trade with countries outside the Eurasian Economic Union (EEU) that are expected from Armenia's recent EEU accession. In a related action, Moody's has also lowered the local-currency bond and deposit ceilings to Ba1 from Baa3, the foreign-currency bond ceiling to Ba2 from Ba1, as well as the foreign-currency deposit ceiling to B1 from Ba3. The short-term foreign-currency bond ceiling and the foreign-currency deposit ceiling remain at NP.
At the Jan 28 session of the Armenian Government, the Finance Ministry suggested a draft decision, according to which Armenia intends to enter international markets with a second tranche of sovereign, USD denominated coupon bonds. The first issue (for 7 years) took place in Sept 2013 in the amount of $700 mln. According to the financial authorities of the country, the demand for the bonds exceeded the amount of the issue 4-fold. The yield was 6% p.a. The underwriters were Deutsche Bank AG, HSBC Bank plc and J.P.Morgan Securities plc. The advisor was Cleary Gottlieb Teen & Hamilton LLC. By unofficial data, about $500 mln of placement of the bonds were spent on redemption of the Russian anti-crisis stabilization loan provided in 2009. The analysts of the AmRating national rating agency believe that the downgrade of the sovereign rating of Armenia by international rating agencies will tangibly raise the interest rates of the new sovereign bonds to 10%-12%. This, in turn, will considerably increase the debt burden of the country. To redeem the debut bonds, the country will have to pay about $42 mln in interest by 2020. The loans from the IMF and the WB are able to facilitate the debt burden. However, the support of these organizations may be restrained because Armenia has made its geopolitical choice by joining the Eurasian Economic Union. The economy of Russia - the EEU leader - has started suffering deep recession.
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