Panama: The Next Investment Grade
Tuesday, November 24 2009 @ 03:27 pm EST
Contributed by: Don Winner
Editor's Comment: This article is gospel - 100% right on. Panama's economy will continue to improve, grow, and expand, and eventually Panamanians will be the richest in Latin America (in terms of GDP per head measured at PPP.) There are only about 3.3 million Panamanians or so, and the money just keeps pouring in, which will only increase after 2014 when the Panama Canal expansion begins operation. Strategically speaking, Panama is in the cat bird's seat for the long haul and there's absolutely nothing on the horizon that could mess things up. Of course there's alway the mother nature wild card, like the remote possibility of a devastating earthquake or something like similar, but other than that it's full speed ahead.
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INFRASTRUCTURE AGENDA - President [Ricardo] Martinelli’s administration has a significant infrastructure agenda as well, for which the proceeds are likely to be used. The bond was issued at a spread of 187.5bps over 10-year USTs and is trading wide to comparable maturities in Peru, Mexico, and Brazil. We think there is room for Panama to converge on some of these names over the longer term. Comparable 10-year bonds are: Peru at a bid spread of 166bps, Mexico at 163bps, Colombia at 193bps, and Brazil at 133bps.
We view this emission favorably as Panama is a strong fundamental credit and at the same time has been a generally illiquid name, so we recommend adding to a portfolio when there is the opportunity. We view the current spread levels in the 10-year region versus peers as fair in the short term with a longer term bias for spread compression versus comparables as Panama is upgraded by at least two of the three main rating agencies over the next year and in the run-up to the successful completion of the canal expansion. Issued at par, according to our trading desk these bonds are now trading at 100.75-100.95 at mid-day today.
STRONG ECONOMY - On the economic front, Panama has been posting relatively strong economic growth numbers. Second quarter GDP growth came in better than expected at +1.9 percent with first quarter revised up to +3.0 percent, bringing first half growth to 2.4 percent year-over-year. First half growth, as is usual for Panama, was spread across several sectors, including construction at 12 percent year-over-year, transportation and communications (canal-related and port activity) at 8 percent year-over-year, and mining at 13 percent year-over-year.
Panama has weathered the global economic storm better than even we forecasted, and we think that 2009 GDP expansion will be stronger than our previous already above consensus call of 2.0 percent. Indeed, GDP expansion will likely come in more than a full percentage point higher, at 3.2 percent, the highest growth rate in Latin America this year. We think average annual growth in the second half will be at least 4 percent.
CANAL EXPANSION - According to the Panama Canal Authority (ACP), the canal expansion project is on time to be completed by 2014 if not earlier and under budget (on average some $300 million below budget in every phase so far). The canal offers a $50 million incentive to finish six months early and there is a $50 million disincentive if it runs more than six months late, according to the ACP. There is very low risk of any delays due to labor issues: There are six labor unions working in the expansion project and all of these contracts have been negotiated through 2014 and 2015.
Canal revenues for the period of January through July 2009 were up 9% annually despite the global economic crisis. Traffic though the canal, however, dropped off during that time period (-4.5 percent year-over-year) but pre-set increases in toll fees have compensated for lower volume. Nonetheless, in the middle of the crisis last year the canal was able to get $3 billion in multi-lateral loans to finance the expansion with a 10-year grace period and 20 years to pay the loan. There is no government guarantee on the loan; it is to the ACP itself. As global trade activity rebounds, so too will canal revenues.
The canal is a key revenue contributor for the government and we think this is only set to grow in importance in coming years. According to the ACP, for every Panama Canal ton, $1 is paid to the government. Some $760 million will be given to the government this fiscal year, which has been the average contribution to the government over the last four years. Meanwhile, a minimum of $528 million must be paid to the government per year during the construction phase. The canal is clearly a key part of the fundamentally strong Panama story; indeed, in our view, after this expansion, Panama will become the logistical hub of the Americas. The Panama Canal already accounts for 5 percent of global trade activity. It is a massive and unique asset to the sovereign and its benefits will be reaped over the course of many years.
Kathryn G. Rooney is Senior EM Macroeconomic Strategist at Bulltick Capital Markets. This column is based on an excerpt of a commentary she wrote to clients. Republished with permission.