Chapter

III: Recent Developments in Private Market Financing

Author(s):
International Monetary Fund
Published Date:
January 1992
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During 1991 and the first half of 1992, access of developing countries to international bond and equity markets increased considerably. Conversely, syndicated bank lending to developing countries continued to decline, apart from lending to two Middle Eastern oil exporters. These developments occurred in the context of strong private capital flows (including foreign direct investment and short-term flows) to a broad spectrum of developing countries. They also reflected improved economic performance in these countries and the decline in short-term interest rates in some industrial countries, particularly the United States.31

Bond Issues

Developing country issues in international bond markets rose to $11.5 billion in 1991 and $9.3 billion in the first half of 1992, compared with $6.2 billion in 1990 (Table 8).32 This higher level of issuance took place in a generally favorable international environment. As interest rates dropped to low levels in several sectors of the international bond market, global issuance activity increased to $301 billion in 1991 (some 43 percent higher than during 1990) and to $163 billion in the first half of 1992. With issuance activity by developing country borrowers almost doubling over the same period, their share of total issues rose to 3.8 percent in 1991 and to 5.2 percent in the first half of 1992, up from 2.6 percent in 1990.

Table 8.International Bond Issues by Developing Countries1(In millions of U.S. dollars)
198919901991First Half

1991
First Half

1992
Developing countries4,6956,16411,5374,2349,275
Africa15990236725
Algeria15990
South Africa236725
Asia1,5321,6302,8701,7801,233
China115347
Hong Kong19366255255110
India450274227227
Indonesia1068034116
Malaysia425
South Korea2581,10513056
Singapore10513056
Taiwan1001604560
Thailand17300
Europe2,1711,8561,9604711,900
Bulgaria101
Czechoslovakia37527715
Hungary8798881,186270667
Turkey1,1905934972011,217
Western Hemisphere8332,5896,4711,9835,417
Argentina2179515585
Brazil1,476252,630
Chile200200
Mexico5702,3063,3731,7431,273
Panama50
Uruguay100
Venezuela263262578829
Memorandum
Issues under EMTN programs37575550
Argentina40
Brazil60
Mexico7550
Venezuela400
Global bond issues

in international

bond markets
252,132226,059301,342163,840177,921
Share of developing countries

in global issuance

(in percent)
1.92.73.82.65.2
Sources: International Financing Review, Euroweek, and Financial Times.

Latin American borrowers, which accounted for 42 percent of developing countries’ bond issues in 1990, increased their share in 1991 and in the first half of 1992 to over half of the total funds raised. Mexico continued to be the largest issuer in 1991, but Argentina and Brazil gained substantial market access for the first time in a decade. In the first half of 1992, Brazil emerged as the leading borrower. Asian borrowers, other than the four newly industrialized countries (NICs), also stepped up their borrowing in the first half of 1992, raising $0.8 billion, compared with $0.4 billion in 1991. In contrast, after having stepped up their borrowing in 1991, the Asian NICs, particularly Korea, scaled back their recourse to international bond offerings. As a result, bond issues by the Asian NICs during the first half of 1992 totaled only $0.5 billion, compared with $2.5 billion in 1991. European borrowers, which accounted for 30 percent of total borrowing by developing countries in 1990, accounted for a smaller share of issuance activity during 1991 and the first half of 1992. Only Hungary, Turkey, and, to a lesser extent, Czechoslovakia, were active borrowers during the period. Finally, South Africa returned to the international bond market in late 1991; it raised more than $960 million by the middle of 1992.

The share of sovereign borrowers in developing country issuance activity (excluding the NICs) declined from 40 percent in 1991 to 30 percent during the first half of 1992 (Table A7). As in 1991, other public-sector entities continued to account for about 40 percent of total issuance activity in the first half of 1992. Private-sector entities, on the other hand, accounted for an increasing share; they represented 31 percent of issuance activity in the first half of 1992, compared with 20 percent in 1991 and with only 13 percent in 1990.

In addition to expanding volume, terms on new issues continued to improve for several countries. Yield spreads at launch for bonds issued by Argentine, Brazilian, Mexican, South African, and Turkish borrowers narrowed in 1991 and in the first half of 1992 as investor concerns about sovereign risk diminished (Table A8). Mexican public-sector borrowers tapped various currency sectors at yield spreads lower than those achieved by public-sector borrowers from several countries (including Hungary and Turkey) that did not lose access to private market financing and that have higher credit ratings. Yield spreads for sovereign borrowers in the international bond market in the first half of 1992 were an average 194 basis points above corresponding government paper from industrial countries; the yield spread averaged 260 basis points for public-sector borrowers and 453 basis points for private-sector borrowers.33

Investors were also receptive to longer maturities, allowing a lengthening of the average tenor for placements by Argentina, Brazil, Hungary, Mexico, and Venezuela. Three Latin American borrowers managed to place 10-year bonds, and Banca Serfin (a Mexican bank) placed a 12-year note in June 1992 (not only the longest-dated deal for a Latin American issuer, but also the first time a private-sector issuer had obtained a tenor longer than five years). These issues helped establish a more complete yield curve and constituted important benchmarks for bond issues by other borrowers from the region. In contrast, Brazilian borrowers generally issued two-year notes until May 1992 when the authorities banned new issuance at maturities of less than three years and took measures to discourage the issuance of bonds with a maturity of between three years and five years.

In terms of currency composition, the U.S. dollar sector continued to be the major funding source for developing country borrowers, particularly for Latin American issuers. Placements in the dollar sector accounted for about two thirds of total resources raised by developing countries during 1991 and the first half of 1992, a much larger share than in the global Eurobond market (Table A9). The high share of dollar-denominated securities reflected both the currency preferences of investors (most flight capital is believed to be held in U.S. dollars) and the currency composition of Latin American companies’ export receipts. In addition, the recent fall in short-term U.S. interest rates made U.S.-based investors more willing to purchase Latin American securities. In this context, developing country borrowers have been able to tap the rapidly growing “Yankee” market. The “Yankee” issues by Hungary and Mexico in September 1992 represented the first issues in this market by borrowers with sub-investment grade credit ratings.34

The Euro-yen sector became the second largest currency sector used by developing country borrowers during the first half of 1992, while issuance activity in the deutsche mark sector declined. In line with developments in the global market, activity by developing country borrowers in the ECU sector increased to an historically high level in the first quarter of 1992 but collapsed after the results of the Danish referendum on Maastricht. To diversify their funding base and tap new investor pools, Latin American (principally Mexican) borrowers have also issued in the Canadian dollar, French franc, pound sterling, peseta, and Swiss franc sectors since July 1991; in each case, the issue represented the first Latin American issue in that currency sector since the onset of the debt crisis. These issues offered local investors the possibility of portfolio diversification and attractive returns. So far, however, issues in these currency sectors have accounted for less than 5 percent of total issues by developing countries.

The structure of enhancements used to facilitate the placement of debt instruments in the international bond market has continued to evolve away from simple collateralization techniques.35 About 11 percent of total issues by Latin American entities during 1991 and the first half of 1992 featured the use of collateralization, compared with 37 percent of total issues by Latin American entities in 1990. Nevertheless, several innovative asset-backed instruments allowed borrowers to tap the market at considerably lower rates. In particular, a recent private placement by Pemex in Japan was secured by four offshore drilling platforms in the Gulf of Mexico. Moreover, Grupo Sidek launched the first Latin American issue of mortgage-backed securities, with the bonds secured against U.S.-dollar-denominated mortgages granted to Mexican residents. Also, a Mexican company raised $207 million to finance a highway construction project through a bond issue backed by prospective toll revenues. This issue is expected to be the first of a series to finance the modernization of Mexico’s road infrastructure. Finally, several Latin American bond issues in 1992 were backed by existing sovereign obligations. Two were based on the repackaging of debt conversion bonds issued under Venezuela’s debt agreement with commercial banks, and two others involved the repackaging of foreign exchange bonds previously issued by Argentina (Bonex). In June 1992, a two-year collateralized bond obligation (CBO) on Mexican par bonds was issued, which featured three types of securities; the senior note carries Moody’s triple-A rating, the first investment grade on any issue from Latin America since the onset of the debt crisis.

In their effort to diversify their borrowing options, several Latin American borrowers have established Euro-medium-term note (EMTN) programs. Since April 1991, eight EMTN programs have been set up, with an aggregate ceiling of $2.5 billion. By the middle of 1992, reported issues under these facilities totaled some $0.9 billion (Table A10). Mexican borrowers pioneered the use of EMTN programs by Latin American borrowers, which account for about half of total commitments. The largest single EMTN program to date ($1 billion) was set up by Venezuela’s Bariven (a subsidiary of PDVSA, the public-sector oil company) in February 1992. The borrower has already issued $400 million worth of notes, including a 10-year tranche. Argentine and Brazilian banks also began using EMTN facilities in the first half of 1992. These EMTN facilities have proven increasingly popular among borrowers because they provide increased flexibility in terms of timing, amounts, currency denomination, and maturities. Most of the programs established for Latin American borrowers provide for issuance in a wide variety of currencies, with maturities typically ranging from one year to seven years.

Short-Term Instruments

An important, though less publicized, source of financing for Latin American borrowers has been the market for short-term debt instruments: namely, the Euro-certificate of deposit (CD) and Euro-commercial paper (CP) (Table A11). Since the opening of this market to Latin American borrowers, outstanding paper has grown rapidly, reaching an estimated $14 billion by the end of April 1992.36 These instruments have proven attractive to investors because of their relatively high yields, short tenor, and small denomination, as well as the anonymity associated with bearer instruments and the simplicity of settlement procedures. For borrowers, these short-term instruments provide simple and relatively inexpensive access to international capital markets, a flexible source of financing, and generally a cheaper alternative to short-term borrowing in domestic financial markets.

The Euro-CD market for Latin American borrowers started in April 1990 when Mexican banks began issuing negotiable Euro-CDs through their London branches.37 Initially, yields were high (some 15 percent for Mexican issuers) to generate investor interest. Subsequently, yields on Mexican Euro-CDs declined sharply, reflecting lower U.S. short-term rates, the narrowing Mexican risk premium, and constraints on supply resulting from new regulations imposed by Banco de México to limit the growth of foreign deposit-taking by Mexican banks. Argentine, Brazilian, and Venezuelan banks began issuing Euro-CDs after mid-1991, but at higher interest rates than Mexican issues. By April 1992, outstanding Euro-CDs issued by a total of 14 Latin American banks amounted to about $13.5 billion, of which $12.4 billion represented claims on Mexican banks. In addition to Latin American banks, other developing country borrowers have re-entered the Euro-CD market, including Iktisat Bankasi, a private Turkish bank, which opened the first Euro-CD facility by a Turkish borrower since 1988.

A number of Euro-commercial paper (CP) programs have recently been established for Latin American corporate borrowers. The first such program was established in April 1991 when Hylsa, Mexico’s largest private steel producer, established a $100 million program. Seven other Mexican corporate borrowers have since tapped the Euro-CP market.38 The largest programs for Latin American borrowers were established by the United Mexican States (UMS) and Nafinsa in early 1992. The UMS Euro-CP program was the first to be established by a Latin American sovereign borrower. The $500 million multicurrency facility was intended to help establish a short-term yield curve for Mexican debt instruments and diversify Mexico’s funding base by attracting money management funds. The facility provides for paper maturities ranging from 30 days to 365 days. The UMS has reportedly issued several tranches with pricing close to 100 basis points over LIBOR. Also, a recent CP program established by Pemex in the United States features credit enhancement in the form of a letter of credit facility arranged by Swiss Bank Corporation, thus carrying an A1 plus rating. Pemex was the first Latin American borrower to tap the U.S.-CP market.

Bank Lending

In contrast to the buoyant activity in the international bond market, syndicated bank lending to developing countries (excluding Kuwait and Saudi Arabia) declined in 1991 and in the first half of 1992. Medium- and long-term bank loan commitments to capital-importing developing countries dropped from $21.6 billion in 1990 to $16.7 billion in 1991, and to $5.2 billion in the first half of 1992 (Table A12). This decline paralleled a global fall in international bank syndications, which partly reflected constraints set by the Basle capital adequacy requirements and banks’ efforts to improve the quality and profitability of loan portfolios. Access to syndicated bank credit remained severely restricted for developing countries that had experienced, or are experiencing, debt-servicing difficulties. In contrast, two Middle Eastern borrowers (Kuwait and Saudi Arabia, which are not classified as capital-importing countries) were able to obtain substantial access to international bank credits. As regards concerted new money, commitments dropped to $129 million in 1991 and in the first half of 1992, while disbursements were limited to bank debt packages agreed in 1989 and 1990 (Table A13).

With the decline of the international syndicated loan market, bilateral lending relationships between banks and their traditional customers have received greater emphasis. When banks have increased exposure to developing country customers, they generally have done so through short-term trade financing and, in some instances, longer-term project financing or export financing. These latter operations have usually been carefully structured to limit exposure to country transfer risk, through, for example, cofinancings with international organizations, official export credit guarantees, associations with direct investment flows, or collateralizations with liquid assets or export receivables.

Asian and Middle Eastern developing countries accounted for the bulk of new syndicated bank credit commitments to developing countries in 1991 and in the first half of 1992. New commitments to Asian countries dropped by $2.5 billion during the first half of 1992, largely reflecting the reduced pace of borrowing by Indonesian residents following the imposition in November 1991 of measures to curtail foreign borrowing. Nevertheless, new commitments to the region accounted for over 80 percent of total commitments to capital-importing developing countries. Also, in the wake of the Middle East war, demand for reconstruction finance in the Middle East prompted a sharp increase in commitments to some Middle Eastern borrowers (mainly Kuwait and Saudi Arabia). In particular, the Saudi Arabian Monetary Authority established a $4.5 billion loan facility in May 1991, Saudi Arabia’s first significant external borrowing since 1989. Since then, additional credit facilities established for Saudi Arabian borrowers have totaled some $7.4 billion. In addition, the Government of Kuwait signed a $5.5 billion syndicated loan facility in December 1991, its first significant external borrowing since 1984.

In contrast, new commitments to European developing countries dropped from $4.9 billion in 1990 to $1.8 billion in 1991, and to $0.8 billion in the first half of 1992. This decline reflected in large part the cessation of lending to the former U.S.S.R. Notwithstanding this overall trend, the largest loan facility ever for an East European borrower was announced in June 1992. The International Finance Corporation-sponsored loan for Skoda Automobilova, the Czechoslovakian vehicle manufacturer, would total DM 1.2 billion, with DM 1 billion to be provided by foreign banks. Finally, after having been granted an investment-grade rating, the Republic of Turkey returned to the syndicated loan market in June 1992, with a $300 million term facility priced at about 160 basis points over LIBOR.

Commitments to Latin America amounted to just $1.0 billion in 1991 and to $0.2 billion during the first half of 1992, with about two thirds going to Mexico, mainly in the form of officially guaranteed trade credit.39 In February 1992, Pemex obtained a $100 million syndicated trade credit facility to finance imports of oil products. This represented the first syndicated bank loan to a Mexican borrower not guaranteed by a creditor government since the early 1980s. Bank credit commitments to African borrowers amounted to $0.4 billion in 1991 ($0.6 billion in 1990) and were minimal during the first half of 1992.40 The Republic of Tunisia established a $110 million balance of payments facility in June 1992, its first syndicated credit in six years.

Tighter international credit conditions were reflected, for OECD and developing country borrowers alike, in lending spreads rising to their highest levels since the early 1980s and in a shortening of maturities (Table A14). The average spread on voluntary loans to developing countries rose from 66 basis points in 1990 to 70 basis points in 1991, and to 76 basis points in the first five months of 1992. Excluding loans to Kuwait and Saudi Arabia, spreads averaged 97 basis points in 1991 and 93 basis points in the first five months of 1992. At the same time, average maturities shortened from 9.8 years in 1990 to 6.2 years in 1991, and to 6.6 years in the first five months of 1992. Facility fees have remained high.

In particular, lending terms hardened significantly for Indonesia, with the average spread over LIBOR increasing from 76 basis points in 1990 to 100 basis points in 1991, and to 124 basis points in the first five months of 1992 (Table A15). At the same time, the average maturity dropped to just three years and two months, compared with ten years and five months in 1990 and with nine years and one month in 1991. Similarly, Malaysian, Korean, Taiwanese, Thai, and Turkish borrowers experienced increases in average interest spreads. India regained access to bank lending on a very limited scale, with lending facilities priced on average 100 basis points over LIBOR (with a one-year maturity); this compares with an average interest spread of 32 basis points in 1990 (with a nine-year average maturity). In contrast, the average interest spread declined for Chinese borrowers during the first five months of 1992, to 95 basis points, after having risen to 116 basis points in 1991.

Equity Portfolio Flows

A number of developing countries experienced a sharp increase in equity portfolio flows, and a shift in the channels of equity portfolio investment, in 1991 and the first half of 1992. Equity flows to developing countries during the late 1980s were mainly through country-specific and multicountry investment funds. In contrast, in 1991 and the first half of 1992, the main sources of equity financing were equity offerings by developing country corporations on industrial country stock exchanges and direct investments in emerging markets.

International Equity Placements

Placements by developing country companies in the international equity market have increased markedly since mid-1990, against the backdrop of generally rising stock markets in a number of industrial and developing countries and a surge in global issuance activity. During 1991 and the first half of 1992, developing country companies raised $5.0 billion and $5.9 billion, respectively, compared with $0.9 billion in 1990 (Table 9). Consequently, the share of equity issues by developing country corporations increased sharply, from 12 percent of new issues in 1990 to 31 percent in 1991, and to 46 percent during the first half of 1992.41 The bulk of issues was accounted for by Latin American companies. The recourse to international equity issues reflected the large scale of a number of issues—including those in the context of privatizations—that would have been constrained by the relative shallowness of most emerging domestic markets. It also reflected investors’ interest in instruments traded on industrial country equity markets.

Table 9.International Equity Issues by Developing Country Companies(In millions of U.S. dollars)
19901991First

Half

1991
First

Half

1992
Developing countries9495,0292,6245,935
Africa134250
South Africa134250
Asia8217373921,471
China11323
India150
Indonesia58912111988
Korea20200100
Malaysia104
Pakistan25
Philippines531443739
Taiwan461
Thailand100259135101
Singapore59200
Europe301767134
Hungary306060
Israel60
Turkey561134
Western Hemisphere983,9812,1624,180
Argentina356266
Brazil150
Chile9873
Mexico3,6252,1623,475
Venezuela216
Global equity issues

in international

equity market
8.15216,38012,900
Share of developing

countries in

global issuance

(in percent)
11.630.746.0
Sources: International Financing Review Equibase, International Financing Review, Euro week, and Financial Times.

The placement of developing country equities in industrial country financial markets has been facilitated by equity-based instruments, such as the American Depository Receipt (ADR) and the Global Depository Receipt (GDR). 42 These facilities permit shares to be traded on industrial country exchanges, with the potential for raising liquidity, reducing settlement time, and lowering settlement risk. ADRs have been the main vehicle for market re-entry in the equity sector, but GDRs have recently become increasingly popular. By mid-1992, 36 Latin American companies had established ADR or GDR programs, 28 of which were Mexican. In 1991, Mexican ADRs accounted for about 3 percent of total ADR programs worldwide and for about 15 percent of the trading volume of ADRs listed on exchanges.43 Placement of these securities in the United States was facilitated by the promulgation of Rule 144A by the Securities and Exchange Commission in June 1990, which enhanced the liquidity of privately placed securities.44 In addition, six ADRs (five from Mexico and one from Chile) have satisfied SEC accounting and disclosure requirements for listing on a U.S. stock exchange. For several Latin American shares, trading volumes are now estimated to be larger in offshore markets than on local exchanges.

Latin American and Southeast Asian companies have been the main issuers of equity in international markets. Latin American issuers mobilized some $4.0 billion in 1991 and $4.2 billion in the first half of 1992. The strong price appreciation in local stock markets in 1991, and perceived brighter economic prospects for the region, made it easier for companies from the region to tap international investors. At the same time, the limited absorptive capacity of local stock markets provided incentives to resort to international equity financing, particularly for large issues. In contrast, Latin American equity issues dropped sharply in the third quarter of 1992, reflecting in part a weakening of prices in the main regional stock exchanges. There has been a general trend toward equity rather than debt finance, including among family-owned companies that sold a percentage of their ownership through initial public offerings (IPOs). This financing pattern, if continued over the next few years, would contribute to a significant shift in the ownership and management structure of several developing countries.

In July 1990, the Chilean telephone company (CTC) launched the first international equity offering by a Latin American borrower in over 25 years, raising $98 million through issues of ADRs in the New York Stock Exchange. The subsequent placement of $2.0 billion in shares by Telmex in May 1991 is credited with having broadened significantly the investor base for Mexican (and indeed Latin American) equities and was soon followed by a spate of equity issues by Latin American corporations. Mexican companies raised $3.6 billion and $3.5 billion, respectively, in 1991 and in the first half of 1992. Other noteworthy placements included the $837 million global equity offering by Vamsa in March 1992 to fund a portion of its acquisition of a controlling interest in Bancomer. Fifty-one percent of the offering was sold in the United States, 30 percent in other international markets, and the rest was placed in Mexico. The Mexican Government sold a further 25 million shares in Telmex through an international offering, raising $1.4 billion in May 1992.

Elsewhere in Latin America, the Government of Argentina raised $622 million internationally through two issues of shares in the telecommunication companies, Entel in November 1991 ($356 million) and Telecom Argentina in February 1992 ($266 million). Also, Alpargatas, a major Argentine manufacturer, established the first ADR program for an Argentine corporation in the fourth quarter of 1991. Aracruz, a leading pulp manufacturer, launched the first international primary equity offering by a Brazilian firm in May 1992.45 Three Venezuelan companies raised about $200 million in February 1992 through issues of GDRs. Of particular note, Venprecar (a steel company) made the first Latin American equity offering in which all shares, including those traded on the Caracas Stock Exchange, will be quoted in U.S. dollars. Finally in Chile, Chilectra, an electricity distribution company, raised $73 million in February 1992 through the placement of ADRs.

Issuance activity by Asian corporates has also increased, and several new issuers, including Chinese and Indian entities, began tapping the international equity market for the first time. Asian corporates raised $0.7 billion in 1991 and $1.5 billion during the first half of 1992, compared with $0.8 billion in 1990. The Indian Government implemented a series of reforms to liberalize foreign investment and domestic access to offshore capital markets, and four major Indian companies (Reliance Industries, Tata Iron and Steel, Essar Gujurat, and Grasim) were authorized in early 1992 to enter the Euro-equity markets for the first time. The first international equity offering of shares in an Indian company was launched in May 1992 by Reliance Industries (a petrochemicals company) and raised $150 million. Other planned international equity offerings were delayed because of market turbulence resulting from the June 1992 stock market scandal. Meanwhile, Chinese companies, mainly in the textile and other manufacturing sectors, raised over $300 million through “B” share issues sold exclusively to foreign investors in the first half of 1992, following liberalization of restrictions on foreign participation.

In the Philippines, issuance activity in the international equity market has included five offerings, raising some $240 million. The May 1991 issue for Ayala Land Inc. was the first equity transaction in the Philippines to have a formal international syndicate. The issue for Manila Electric Company (Meralco) in November 1991 was the first privatization involving an equity flotation; it featured an international tranche of GDRs, which raised about Pesos 1.0 billion (some $39 million). Similarly, Taiwanese corporations began tapping the international equity market in the second quarter of 1992. In May 1992, China Steel Corporation placed internationally 18 million GDRs worth about $400 million, marking the first time foreign investors were allowed directly to buy equity in a Taiwanese company.46 In June 1992, a second issuer, Asia Cement, tapped the international equity market with a $60 million issue.

In contrast to such issuance activity by Latin American and Asian corporates, companies from European developing countries have attracted only limited amounts of equity investment. EiS became the first Turkish corporation to place equity directly with foreign investors through a GDR offering in April 1992 that raised $34 million. The first global equity offering by an Eastern European country took place in March 1991 when the Hungarian photography company, Fotex, successfully completed a $54 million offering. Overall, Hungarian companies raised the equivalent of $60 million through four issues in 1991, with no issuance activity reported in the first half of 1992. Finally, Liberty Life, South Africa’s premier insurance company, launched in late 1991 the first international equity offering by a South African firm in 15 years. Overall, South African companies raised $384 million through two issues in 1991 and in the first half of 1992.

Country Funds

New issues of closed-end mutual funds targeting emerging markets dropped from a record $3.5 billion in 1990 to $1.2 billion in 1991, and to $1.0 billion in the first half of 1992 (Table 10). The importance of these pooled investment vehicles (country-specific or multicountry) declined in part because of easier direct entry into domestic stock markets and the greater availability of equity issues by developing country companies on the international equity market. Only 18 emerging market closed-end funds were created in 1991, directed mainly at new markets, particularly to take advantage of liberalized restrictions on foreign participation. At the end of 1991, the number of country funds for emerging markets included 154 closed-end funds, with total assets of $15 billion, and 169 open-end funds with $6.7 billion in total net assets.47

Table 10.Issues of Closed-End Funds Targeting Developing Country Emerging Markets(In millions of U.S. dollars)
198919901991First

Half

1991
First

Half

1992
Developing countries1,8593,4821,1934211,004
Global funds7636253
Asia1,4171,895213100337
Multicountry487602
Country specific9301,294213100337
China128
India168105
Indonesia199312
Korea478140100147
Malaysia150292
Pakistan2362
Philippines253
Taiwan5640
Thailand105107
Vietnam10
Europe136976250
Multicountry45841
Country specific136135250
Czechoslovakia100
Hungary80100
Poland150
Turkey5635
Western Hemisphere230575727321417
Multicountry17820344015065
Country specific230372288171352
Argentina56240
Brazil112
Chile230180
Mexico19213271
Venezuela100100
Sources: Lipper Analytical Services, International Financing Review, Euroweek, and Financial Times.

The geographical distribution of new country funds shifted markedly in 1991. While funds dedicated to Asian and East European securities accounted, respectively, for 54 percent and some 24 percent of resources raised in 1990, Latin America represented more than half of total funds raised in 1991 and in the first half of 1992. No new funds specializing in Eastern Europe were reported in 1991, owing to difficulties encountered by existing funds in finding investment opportunities, but during the first half of 1992 two new funds targeting Czechoslovakia and Poland were established.

During 1991 and the first half of 1992, new emerging market funds added further to the diversity of international investment opportunities. In October 1991, a $60 million Argentine Fund was launched, the first U.S. investment vehicle set up to invest primarily in Argentine equities. In May 1992, the first investment trust to specialize in Brazilian shares was floated on the London market; it reportedly raised $75 million, mainly from institutional investors. The first country funds targeting investments in China were introduced in April 1992. Three funds (the China Fund, the China (PRC) Fund (an open-end fund), and the GT Shenzhen and China Fund)—totaling $130 million—were listed on the Hong Kong Stock Exchange. In May 1992, the first international investment vehicle to exploit Pakistan’s liberalized foreign investment regime was created. The $25 million Pakistan Fund attracted strong support from European institutions.

Other Flows

Portfolio investments placed directly in emerging stock markets have increased substantially since the beginning of 1991. Comprehensive statistics across countries are not available, but the magnitude of such flows is indicated by the fact that in Mexico, portfolio investment by foreign investors (excluding Mexican securities issued internationally) amounted to $4.1 billion in 1991 and $2.9 billion in the first quarter of 1992. Moreover, foreign investment in domestic equities in Brazil reportedly totaled $1.4 billion in the first four months of 1992, versus $760 million in 1991, following the liberalization of restrictions on foreign share ownership. This trend has reflected in part regulatory and market reforms, which increased the size, depth, and liquidity of several emerging markets; new investment opportunities created by privatization; and steps by a number of countries to broaden access for foreign portfolio investment or to promote the repatriation of capital.

Derivative Instruments

The rapid growth of the cash market for developing country instruments, the broadening of the investor base, and continuing high price volatility has encouraged the introduction of derivative instruments in various sectors of the market. These include nonperforming bank claims, restructured bank debt securities, and equities. Over time, progress has been made toward standardizing contracts and introducing exchange trading to reduce costs, increase transparency, and raise liquidity. Nevertheless, the derivative market remains small relative to the cash market.

A limited over-the-counter (OTC) market in options and forwards on specific unrestructured bank claims emerged in late 1989 and early 1990. These instruments allowed investors to limit their exposure to price volatility in these claims. They also allowed speculators to take highly leveraged positions. The market for tailored options remains small, however, because of the lack of standardized contracts, high transaction costs, and a relative lack of transparency in the market.

More recently, in addition to the growing OTC options available for some of the leading instruments, several standardized hedging instruments suitable for exchange trading have been developed. In April 1992, Merrill Lynch issued warrants on Venezuelan Debt Conversion Bonds, the first public offering of warrants on Latin American sovereign debt. In May 1992, three series of call warrants on Argentine commercial bank debt were issued by J.P. Morgan (covering $150 million of bank loans) and Merrill Lynch ($250 million), and in June 1992, by Chemical Bank ($100 million). The warrants are exercisable against bank claims or par bonds to be issued as part of Argentina’s bank debt restructuring. In addition, Paribas launched the first warrants on Brazilian bank debt in May 1992, covering loans of $100 million. In June 1992, the first call warrants on Mexican debt instruments were launched, in the context of the two-year collateralized bond offering issue managed by Citibank, and in July 1992, Salomon Brothers launched call warrants on Polish bank debt.

In May 1992, the Stockholm-based financial derivatives exchange offered a clearing service for trading in standardized futures and options contracts on the LDCx index of developing country debt.48 Such standardized instruments are aimed at portfolio managers who want broad exposure to the developing country market, and at banks that can use the index to hedge their own portfolios and improve relative values, since counterparty risk is transferred entirely to the clearing house. In principle, such a standardized exchange-traded instrument provides for more liquidity than options on individual instruments. Rival hedging products have also been launched, essentially standardized OTC options on individual debt instruments for banks and investors dealing directly in individual types of developing country debt.

In the equity sector, financial institutions have issued a growing number of offshore listed warrants on Mexican stocks. The first such warrant was issued on Telmex ADRs in June 1991. Subsequently, a series of offshore U.S.-dollar-denominated warrants have been issued on individual Mexican stocks, including those of Telmex, Alfa, Cifra, Televisa, and Grupo Carso. In addition, covered warrants were issued in July 1991 on the Mexico Fund, and three issues of basket warrants were placed in November 1991. Nafinsa issued a $100 million five-year Eurobond in December 1991 that featured embedded warrants linked to the Mexican Stock Exchange Index. The Chicago Board Options Exchange began trading options on Telmex ADRs in September 1991. This was the first exchange-traded option on a Latin American equity instrument. In June 1992, Lehman Brothers launched the first public-call warrants on a basket of Argentine shares. Earlier, Merrill Lynch had launched a call warrant on Telefónica shares. Finally, several Eurobond issues in nondollar currencies have been swapped into the U.S. dollar, most recently a French franc issue by Pemex. Use of swap techniques has allowed Mexican borrowers to tap the pockets of Austrian, Canadian, French, German, and Spanish investors willing to invest in Mexico but wanting to do so in their own currency.

The discussion of bond and equity developments in this chapter is based on market information compiled by the staff, which allows for a disaggregation of these flows by term, currency, and borrower, as well as by country (Table A5). Data were obtained from market reports published in the International Financing Review, Euroweek, and the Financial Times.

Includes reported private placements and note issues under Euro medium-term note programs. The figures differ from OECD estimates, which have a narrower coverage (Table A6).

Figures are based on average yield spreads across different currencies. These figures should be interpreted with care as shifts in the average may relate to shifts in the currency composition of borrowing, since average spreads vary between currency sectors.

Issues in the Yankee market have to satisfy Securities and Exchange Commission listing requirements. These require higher standards of accounting and disclosure than typical for Eurobond issues.

Enhancement techniques were discussed in Private Market Financing for Developing Countries (Washington: IMF, December 1991), Chapter 3.

Pérez, V.S., and Friedberg, J.R., “A Long Way,” Latin Finance, No. 36 (May 1992).

Typically, Euro-CDs are U.S.-dollar-denominated negotiable notes, issued in bearer form, with maturities ranging from 90 to 360 days. They are generally discounted notes (zero coupon), but occasionally carry a fixed coupon payable at maturity.

The technical features of Euro-CPs are almost identical to the terms of Euro-CDs. A Euro-CP is typically a zero-coupon bearer instrument, denominated in U.S. dollars, with typical maturities of 90 to 180 days.

In 1991, spontaneous bank credit commitments to Western Hemisphere countries exclude a large “semi-concerted” loan ($1.8 billion) obtained by the Government of Colombia from its creditor banks to refinance principal payments falling due. The 1989–90 data also include large loans ($1.1 billion in 1989 and $0.8 billion in 1990) to multinational corporations based in Bermuda.

In 1992, spontaneous bank credit commitments to African countries excluded a large “semi-concerted” loan ($1.5 billion) obtained by the Government of Algeria from its creditor banks to refinance principal payments falling due during 1991–93.

These figures are based on market reports included in International Financing Review, Euroweek, and the Financial Times. They should be interpreted with care as the information is likely to be partial.

An ADR is a U.S.-dollar-denominated equity-based instrument backed by a trust containing stocks of a foreign company. ADRs are traded on major U.S. exchanges or in the over-the-counter market, with clearance and settlement handled by a custodian bank in the United States. A GDR is a depository receipt, whose technical structure is similar to that of an ADR, but which is issued and traded internationally.

Martinez, M., “American Depository Receipts: Internationalization of Mexican Capital Markets,” Latin Finance, No. 38 (June 1992).

Rule 144A permits qualified institutional buyers to trade privately placed securities without waiting the stipulated two-year holding period that generally applies to privately placed securities.

The establishment of ADRs by Brazilian corporates was facilitated by recent regulatory changes allowing the purchase of ADRs free of any capital gains tax (Regulation 1848). Before this change, the rules, including tax regulations, made it unprofitable for foreigners to buy Brazilian stocks on a short-term basis.

Until then, foreign investors were restricted to Euro-convertible bonds and offshore country funds.

Emerging Stock Markets Factbook (International Finance Corporation: Washington, 1992).

This index is based on ten types of bank claims covering eight countries, and was designed to track the secondary market for developing country bank debt.

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