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LatAm CDS spreads pick up in Q3, with Argentina leading pack

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LatAm CDS spreads pick up in Q3, with Argentina leading pack

Sovereign credit default swap prices for several Latin American countries ticked up in the third quarter with Argentina leading the charge, deviating from a general downward trend observed in the two previous three-month periods.

CDS spreads in Mexico and Peru saw quarter-to-date increases of 4.53% and 4.04%, respectively, to end at 115.68 basis points and 55.40 basis points as of Sept. 30. Perceived risk in Peru has risen following a political crisis in which President Martin Vizcarra dissolved the opposition-run Congress for repeatedly rejecting his anti-corruption reforms.

According to Jaime Reusche, head of sovereign risk at Moody's, foreign banks are recommending that investors reduce their exposure to Peru's sovereign bonds, which could have a negative impact on yields and lead to an increase in country risk.

Furthermore, the Peruvian central bank followed the global trend of loosening monetary policy while also cutting its growth forecast for 2019 to 3.5%.

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Meanwhile, Mexico's risk premium is closing its gap with that of Brazil, as traders discern greater risk in Mexican President Andrés Manuel López Obrador's policies compared to his Brazilian counterpart, Jair Bolsonaro, who has seen positive progress in his promised pension reforms. Brazil continued to see a decline in its CDS spreads, with the level dropping 9.16% to 136.03 basis points at the end of the third quarter.

Both of the countries' central banks reduced their benchmark interest rates while announcing slight improvements in their economic growth forecasts for 2019. Despite sharing a similar economic optimism, Mexico faces negative outlooks from S&P Global Ratings and Moody's, while Brazil holds a stable outlook on both rating agencies as well as Fitch Ratings.

In Colombia, the cost of insuring exposure in the CDS market rose 2.46% to 93.67 basis points, despite the country's central bank raising its growth forecast for the year to 3.2% from 3.0%. The country could face a tighter fiscal budget next year due to a decline in the price of coal, its top export, amid excess supply and an economic slowdown in China, the top market for the commodity.

As for Argentina, CDS spreads skyrocketed in the third quarter, with a 466.68% increase to 5,462.56 basis points. The country's markets have been rattled by the results of the primary presidential elections, in which the Peronist opposition candidate Alberto Fernández emerged as a clear front-runner over market-friendly President Mauricio Macri.

Meanwhile, Argentina's benchmark rate, which is determined by daily auctions of central bank notes, has been the highest in the world in over a year, hovering above 80% in September. The country's central bank set a floor of 78% for its benchmark interest rate in September, up from 58% previously, in an effort to contain further financial erosion.

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As opposed to previous periods, in which the general decline in CDS spreads in Latin America was attributed to a repricing of U.S. monetary policy, increased risk premia in the third quarter reflect weak macroeconomic fundamentals among the region's economies. In particular, many of the central banks in the region have been implementing interest rate cuts to counter subdued inflation amid a still-weak economic environment, and in response to a more dovish tone from the U.S. Federal Reserve.

Including GDP projections for 2019 and 2020, economic growth of Latin American countries will have hovered below 2% since 2014, or for seven years, according to Elijah Oliveros-Rosen, a senior economist with S&P Global Ratings.