(Bloomberg) — One of the few profitable sovereign bond deals is a bet on an IMF bailout for a handful of countries whose debt is selling at distressed levels.

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Debt issued by high-risk countries, led by Pakistan, Zambia and Tunisia, has rallied since early April, giving investors gains of up to 6.6% last month alone, on forecasts. support from the International Monetary Fund. Emerging market debt as a whole fell 6% in April as the surge in US Treasuries undermined the yield advantage of alternative debt and encouraged investors to seek safety.

Some of the most fragile economies in the emerging market universe are benefiting from investor expectations that the fund will be more flexible than usual with the austerity measures it traditionally demands in return for aid. Around the world, central banks are tightening monetary policy as inflationary pressures mount, leading fund managers to predict that the IMF will be a bit more lenient this time around.

Pakistan, which asked the IMF for an extension of its loan program last month, generated the best returns in emerging markets at 6.6% in April, followed by Zambia and Tunisia. The southern African country’s dollar debt yields were 47% and its currency soared 27% in 2021, according to data compiled by Bloomberg, after pledging to complete a $1.4 billion bailout from the funds by mid-2022.

The IMF’s press office declined to comment, citing its policy of not commenting on market movements.

“There is sympathy given the various consequences of the Russian-Ukrainian conflict, particularly on food prices,” said Kaan Nazli, fund manager at Neuberger Berman, which has invested $28 billion in debt. emerging markets. “The IMF’s continued engagement has been the theme of all these credits despite the significant social and economic challenges posed by tighter financial conditions and price pressures emanating from the Russian-Ukrainian conflict.”

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IMF Managing Director Kristalina Georgieva said on March 17 that the fund stands ready to support Ukraine’s neighbors and other countries affected by the fallout from the war “through all its relevant instruments”.

Safety nets

On April 12, the IMF announced a staff-level agreement to increase loans to Moldova by $267 million, although it still needs to be approved by the institution’s board. Georgieva also said on April 22 that the fund was ready to support the protection of vulnerable people in Egypt, which before the war bought more than 80% of its wheat from Russia and Ukraine. Grain prices have reached record highs.

Long criticized for demanding painful austerity in return for aid, the fund said in an April 26 analysis of Latin America that in countries where social safety nets are not well developed, governments can implement temporary measures to facilitate the transmission of international price spikes due to Russia’s invasion of Ukraine. At the same time, the Washington-based fund warned of the fiscal cost and the potential for distortions.

“It appears the IMF is taking a less stringent approach, allowing countries to adjust over a longer period than in the past,” said Michael Arno, fund manager and research analyst at Brandywine Global Investment Management, which owns $20 billion in emerging markets. market assets under management.

Arno sees opportunities in high-yield sovereign hard currencies, but added that “there are a lot of headwinds, so we are more cautious at the moment.”

Debt sustainability

The IMF can determine which country’s bond markets will rise or fall when it sets the terms for financial assistance, including debt restructuring and any reduction in outstanding debt. Georgieva said on April 14 that some countries will need debt restructuring, with 60% of low-income countries being over-indebted or close to over-indebted.

To be sure, investors say the IMF still demands reforms for debt sustainability and seeks to discriminate between credits with fundamental flaws, like Sri Lanka, whose debt metrics deteriorated long before the war. , of those temporarily affected by the war, such as Ukraine itself.

“I think the IMF is becoming more lenient with the political conditions required to obtain financial support, and offering more financial support, when a country is not in a debt crisis,” said Gregory Smith, market strategist emerging markets at ‎M&G Investments in London.

“But when countries are clearly headed for a debt crisis, or are in the process of doing so, the IMF seems to push more frequently for debt restructuring, with deeper debt reductions,” he said. he declares.

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