Egypt default risk minimal

Mon Jan 14, 2013 4:24am EST

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LONDON, Jan 14 (IFR) - Egypt is not likely to face immediate funding problems and the risk of a default on its sovereign debt is low, said analysts who cover the country.

In spite of the recent fall of the Egyptian pound to all-time lows, foreign exchange reserves dropping to USD15bn - half of what they were two years ago - and persisting doubts as to whether an agreement with the IMF will be reached before new parliamentary elections in April, external aid and continuing support from local banks will ensure the country meets all its upcoming obligations.

"Egypt is too big to fail and there remains an overwhelming interest to see the country stabilised, both economically and politically," said Reinhard Cluse, chief economist for Europe and CEEMEA at UBS.

While most analysts are sceptical a deal with the IMF over a USD4.8bn package will be sealed before the parliamentary elections, the sovereign is expected to continue to honour its obligations to local and foreign investors over the coming months.

According to Bank of America Merrill Lynch, Egypt's gross financing needs amount to USD18.2bn in 2013. The IMF package, combined with aid pledges made by other the European Union, the World Bank, the African Development Bank and individual countries, will help plug USD15.3bn of that gap. The rollover of dollar-denominated T-bills, held for the most part by Egyptian banks, should provide an additional USD5.8bn, according to BofA Merrill Lynch.

"I think short-term default on external government debt is unlikely," said Stephen Bailey-Smith, head of Africa research at Standard Bank. "The dominant risk comes from hard currency scarcity and if the present shortage creates more widespread panic buying."

Selling pressure on Egyptian assets intensified in December, as a bitterly-contested new constitution was signed into law. Since the beginning of the new year, however, the foreign exchange and fixed income markets seem to have embarked on divergent paths.

As the central banks announced a new currency system on December 29 and put in place limits on the availability of dollars in the economy, the Egyptian Pound plummeted to record lows in January, and was quoted at 6.54 to the dollar on Friday.

Still, Egypt's only two outstanding international bonds, a 5.75% 2020 note and a 6.875% 2040, have recovered half of their December losses since the beginning of the year, and ended the week at a bid yield of 5.53% and 6.94% respectively, according to Thomson Reuters data.

SUKUK HOPES

While the Egyptian government has stressed on multiple occasions its intention to tap the international bond market, potentially with a sukuk issue, analysts have divergent opinions on whether this would be a good move for the sovereign at this point.

"From the government's perspective, launching a sovereign Eurobond now is not very sensible. It would be relatively expensive and they would have to pay an uncertainty premium," said UBS's Cluse.

Others note, however, that issuing bonds internationally could help Egypt, which is rated B2/B-/B+, reduce the country's reliance on domestic banks and help free up lending to the private sector.

"There has been some reluctance to issue international debt, and this has crowded out private sector lending as domestic banks lend primarily to the government," noted Gabriel Sterne, senior economist at Exotix. "With such low external debt levels and relatively low yields on the outstanding Eurobonds, I think there is a huge capacity for Egypt to tap the international market."

While risks over Egypt's political and financial stability continue to loom, analysts note that appetite for emerging markets sovereign debt remains at record highs. "Ironically, because of global conditions this is actually not a bad time for the government to issue external debt. They would probably print at the same price as three years ago," noted Standard Bank's Bailey-Smith.

"These are attractive issuance levels, especially if you consider that funding locally in Egyptian pounds will presently cost them as much as 17% on a 10-year tenor."

According to some, the recent rally in Egyptian equities and Eurobonds suggests investors can see beyond the present impasse. Other observers, however, say that for investors willing to get exposure to Egypt the stakes remain high.

"I believe the next few months could be difficult. Political pressures might not come down quickly, and risks are still looming," said Cluse. "This should be a big disclaimer for international investors putting money into these bonds."

(Reporting by Davide Scigliuzzo; Editing by Sudip Roy)

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