Upgrades surpass downgrades in second quarter, says S&P

By Reshmi Basu

New York, Aug. 4 - More emerging market credits continue to be listed with a positive bias than a negative one, according to a Standard & Poor's report. This is in contrast with the trend in developed countries.

As of June 30, 16% of rated parent issuers were listed either with a positive outlook or CreditWatch positive compared with 14% at the end of March and 13% a year ago.

Negative bias dropped to 14% from 20% a year ago, according to the "Emerging Market Credit Quality Still Upbeat, But Risks Loom" report.

"The positive bias in emerging markets is being sustained by high commodity prices, which are stoking growth in many markets," said Diane Vazza, head of Standard & Poor's global fixed income research group, in the report.

"Whether these conditions will result in actual upgrades - versus merely returning to stable at existing rating levels - will depend on the extent to which economic demand is strengthened and extended to non-commodity sectors."

Nonetheless, emerging market credit quality has been improving for several quarters, with upgrades outpacing downgrades for the fourth consecutive quarter.

Despite fewer upgrades in the second quarter from the previous quarter, the downgrade ratio declined to 11% (based on 16 upgraded and two downgrades) as the number of downgrades was cut in half.

The downgrade ratio is the lowest recorded since the fourth quarter of 1997, which saw a surge of upgrades in Latin America, primarily in Argentina and Brazil.

Within emerging markets, most of the rating activity occurred in banks and sovereigns in the second quarter. The banking sector had six upgrades and one downgrade. All the upgrades affected Asia-Pacific commercial banks.

Meanwhile, there were five upgrades and zero downgrades among sovereigns. Three upgrades occurred in Eastern Europe, the Middle East and Africa and two in Latin American and the Caribbean.

Besides the downgrade in the banking sector, the only other downgrade in the second quarter was in the oil and gas exploration and production sector.

Five upgrades were recorded among non-financial issuers, two in telecommunications and one each in consumer products, media and entertainment, and metals, mining and steel. The non-financial downgrade ratio fell to 17% in the second quarter from 67% in the same quarter a year ago.

Upgrades surpassed downgrades in each of the major regions, but the most improvement was seen in Latin America. The region recorded four upgrades and zero downgrades, compared with six upgrades and three downgrades in the previous quarter.

For the Asia-Pacific region, the downgrade ratio slipped 11% in the second quarter, 60% lower than the same quarter in 2003.

The Eastern Europe, the Middle East and Africa region had a slight degradation where the downgrade ratio rose to 20% in the second quarter compared with 11% in the same quarter a year earlier.

Two-thirds of all emerging market rating actions in the second quarter occurred among junk-rated issuers, comprising 56% of the rated emerging market universe.

The speculative-grade segment had a downgrade ratio of 8%, an improvement over the 20% in the previous quarter. The investment-grade sector had a downgrade ratio of 17%, slightly higher than the 14% for the first quarter.

According to the report, the Eastern Europe, Middle East and Africa region showed the most potential for upgrades, with 20% of rated entities listed with a positive bias and 11% listed with a negative bias.

Romania, Turkey, Kazakhstan, and Bulgaria may benefit from potential upgrades.

Russia has the most number of credits with a positive bias at seven, representing 16% of the rated population. Of those, three are from the wireless telecommunications sector, two are from the banking sector and two are from utilities sector.

Asia-Pacific shows momentum for upgrades as well, with 17% of rated entities having a positive bias versus 14% with a negative bias.

Countries with the highest potential for upgrades were Thailand, Indonesia and South Korea, S&P said.

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