Sovereign and corporate issuers in Latin America will be adversely affected by slower Chinese demand and commodity price weakness caused by coronavirus due to high commodity export dependence and direct trade exposure to China, says Fitch Ratings. The ultimate impact will depend on the duration and intensity of the outbreak and its effect on China’s and global GDP.
Agriculture, mining and fuel shipments represent a material percentage of GDP for many Latin American countries and revenue for the region’s largest exporters with China being a key destination. More than 25% of Chile’s, Peru’s and Brazil’s merchandise exports go to China, according to International Monetary Fund Direction of Trade Statistics, and the ability to quickly redirect commodity exports to other countries will be a challenge.
Prior to the outbreak, our outlook for Latin America was for a mild economic recovery with fiscal, political and governability risks challenging the region’s economy and ratings in 2020. Coronavirus introduces a new downside risk to growth expectations. The likely adverse economic effect is coming at a time when several countries are facing higher government debt burdens and struggling with the challenge to consolidate fiscal accounts amid a sluggish recovery. Therefore, the potential for fiscal stimulus to mitigate the impact on growth from the increased external headwinds is limited. Social unrest is also a challenge for some countries, most notably Chile.
Ratings on seven sovereigns have a Negative Outlook (Aruba, Bolivia, Colombia, Costa Rica, Guatemala, Panama and Uruguay) and only one has a Positive Outlook (Jamaica). In addition, Argentina remains in severe financial distress as reflected by its ‘CC’ Foreign Currency IDR and ‘RD’ Local Currency IDR.
Prices for copper, aluminum, iron ore, zinc and oil noticeably declined after the coronavirus outbreak, which led to aggressive government restrictions on travel and other economic activities. Chinese purchases of many natural resources represent a significant portion of world demand and exporter revenue. Mexico, Colombia and Ecuador have fiscal dependence on oil prices, while Chile and Peru are dependent on copper, resulting in these countries being sensitive to price shocks. Lower commodity prices are also a revenue headwind for Latin American exporters.
Fitch views some Latin American corporates as better positioned than others to withstand heightened commodity price volatility. Vale and Southern Copper are well positioned to manage through a period of price weakness due to their strong balance sheets and low cost structures. Conversely, Codelco and Volcan may be more vulnerable. Weak copper prices could hamper Codelco’s ability to fund capex from operating cash flow and its standalone credit profile, increasing its reliance on lenders for the cash short fall. Volcan has failed to reduce its absolute level of debt during the 2017 and 2018 peak in zinc prices. Lower zinc prices would further pressure cash flow and delay debt reduction.
Ecopetrol’s ratings reflect the strong linkage to the credit profile of Colombia and, therefore, have a Negative Outlook. PEMEX’s Negative Outlook reflects the potential for further deterioration in its standalone credit profile, which could result from the company failing to stabilize production and continuing with unsustainable reserves replacement ratios and negative FCF. Lower oil prices could add to pressures.
Beyond natural resources, revenue growth for Brazilian protein processors and Mexican auto-parts makers could also be affected by Coronavirus’ effect on China. Coronavirus is disrupting meat shipments to China due to local businesses being closed and backups at ports. Exports represented 25% of JBS’s global sales in 2018. Asia, primarily China, Japan and South Korea, represented about half of export sales. China is the world’s largest consumer of pork and is the largest automobile market in the world.