One of the classic signs that the credit cycle is nearing the end is that borrowers that shouldn’t be getting financed not only get funded, but get it at terms that seem crazy. I’ve recently written about the silly things happening in global high yield debt, Chinese debt and the global attitude to sovereign debt. Continuing this theme are recent examples of emerging market sovereign debt; Greece, Argentina and Iraq. Each of these shouldn’t have been funded, but the desperation for yield saw all three get funded on terms that seem crazy. Here’s the detail on each.
In considering emerging market debt, investors have to be careful to consider each country on its own merits. In the examples of Argentina, Greece and Iraq, bond buyers have suspended sceptical analysis. They’ve banked the equity case, hoping for a substantial change from historical precedents, even though they won’t get a share of the upside if the rosy scenario occurs.
The examples aren’t unusual; as shown in the graph below from Bloomberg Belarus, Mongolia and Ukraine are all CCC+ rated but have bonds yielding less than 6%.
These examples point to the greater fool theory playing out in many credit markets. We’ve now reached the point in the credit cycle where further gains seem dependent upon more dumb money arriving and pushing spreads even tighter.
How much longer can this farce continued?
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