Ecuador enjoys gains on oils but political troubles cause market worries

By Reshmi Basu and Paul A. Harris

New York, May 20 - High oil prices helped Ecuador perform strongly relative to other Latin American countries during Thursday's session - but some market participants believe that country has hardly a leg to stand on in the capital markets.

The Ecuador bond due 2012 was unchanged at 90 bid, 92 offered in trading Thursday while its bond due 2030 was up 0.40 at 71.4 bid, 72.5 offered.

The Ecuador component of the JP Morgan Index slid by 0.18. Its spread to Treasuries widened by two basis points to 874 basis points.

In recent sessions high oil prices have lifted Ecuador's debt along with that of other oil-producing nations in Latin America.

But some in the market are concerned that Ecuador still has tough problems to deal with.

"The three main issues driving Ecuador are the standby agreement with the IMF, the second one is the important role that the minister of finance [Mauricio] Pozo has portrayed to the capital markets, and the third has to do with the political events that play within the country in terms of fiscal expenditure, and that is related to what's happening in the oil market overall," said debt strategist at Refco EM.

On Thursday, Wall Street sweetheart finance minister Pozo said Ecuador may seek to draw down on a future International Monetary Fund standby loan program in hopes of renewing investor confidence after the country's 1999 default on foreign debt payments. Such a move would be intended to generate investor support for an upcoming splash in the capital markets.

The day before the IMF approved a one-year extension on repayment expectations in the total amount equivalent to SDR 33.071 million under Ecuador's April 19, 2000 Standby Arrangement.

The country has been in negotiations with the IMF over its standby agreement, which ended at the end of April. That standby agreement had a series of fiscal and structural reform targets, which addressed the banking crisis and inefficiencies in public sector spending and the energy sectors.

"Unfortunately, because in Ecuador the political environment is so complicated, it proved very difficult for the [Lucio] Gutierrez government to get things through Congress," said Alberto Bernal, Latin American economist for IDEAGlobal.

"Most of the structural targets were not met."

But the fiscal picture looks better due to the boost from record-high oil prices.

"You figure that Ecuador, with oil prices as high as they are, would not need money. But whatever they can borrow from the IMF is going to be much tighter than what they could get from any other source," said a sell-side source.

"Earlier in the year, when the market was stronger, some people thought that Ecuador would do a new bond and use the proceeds to buy back some of the existing bonds that came out of their last debt restructuring.

"But with the market having moved off you wouldn't want to necessarily lock into longer dated bonds at these kinds of yields if you didn't have to.

"So it makes sense for them to line up the IMF," said a sell-side source.

The Ecuador government wants a new agreement with the IMF because an agreement with the IMF implies a new credit line, according to IDEAGlobal's Bernal.

"The Ecuadorian government has no credibility with the IMF. There's a feeling, accurate in my view, that the Gutierrez administration is not capable of getting stuff through Congress.

"And Congress has very little incentive in helping the administration, even if it implies political and economic havoc. It has happened before and will perhaps happen again. Politicians could care less about the economy going to shambles because it could imply personal gains for them."

How to spend the oil money

The assumption was that given high oil prices Ecuador would have no need for external financing. But political outcry over how the money should be spent has pitted capital markets against social issues.

"In the past few weeks, we've been hearing about some of the opposition within the country trying to undermine the role played by minister Pozo in reference to the purchase of some of the outstanding eurobonds," said the Refco EM strategist.

About a month to two months ago, the country was going to repurchase the outstanding issuance of the bond due 2030.

"The source of the funds to carry out this purchase had to with the excess of oil revenue. The opposition took a negative stand against Pozo and tried to derail the use of the money," said the debt strategist.

But some leaders within the country wanted the money to be used inside Ecuador, such as for infrastructure improvements.

"That has created a political dilemma," said the strategist.

Also adding to the political instability, there was an attempted impeachment against the finance minister in Congress.

The worst weeks for Ecuador in the markets happened two or three weeks ago when the credit lost 20% of its value on the impeachment move, the inability to get the IMF on board, and the realization that it would be impossible to repurchase debt.

Resignation rumors hurt debt

Rumors of Pozo's resignation have also been dragging down investor sentiment.

"By losing support of Wall Street, it would imply that Gutierrez would lose even more ground that he has lost already because he does not have the popular support," said Bernal.

"If Pozo goes, he [Gutierrez] won't have the support of the markets because that agreement with the IMF would look pretty much doomed."

While Ecuador has been an oil story of late, the fear is that it may turn into another Argentina.

"Utilizing resources to pay external bondholders at 100% of the value of the debt is not something that many politicians in Ecuador see as good policy," said Bernal.

"They want to see more of a situation like the one in Argentina where politicians say, we will pay you only 25 cents.

"In Latin America, it's always a good idea to lambaste the international investor."

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