Bank Sarasin's new sustainability study: sovereign bonds issued by sustainable countries yield higher returns25.07.2011
The sovereign bonds of many Southern European countries have seen prices collapse under the pressure of the European debt crisis. Here the "traditional" credit ratings have reached their limits and no longer serve as leading indicators, as originally intended. As the new sustainability study published by Bank Sarasin & Co. Ltd shows, the economies of these countries often tend to be run in a fairly unsustainable manner. This has a negative impact on the performance of sovereign bonds. By contrast, the most economically successful countries tend to be those with abundant resources which also use them in a comparatively efficient way, such as a number of South American nations.
A country's long-term solvency depends to a large extent on its future tax receipts. This requires a sustainable tax base, which needs to be present mainly in the form of future goods and services. This in turn depends on a country's available natural, social and economic resources and its efficiency in converting these resources into goods and services.
Sustainable industrialised countries are more resilient to crisis
In order to compare the performance of sovereign bonds from sustainable and non-sustainable industrialised nations, Bank Sarasin split the World Government Bond Index (WGBI) produced by Citigroup into two groups. Fifteen of the total 25 countries represented in the Index are classed as "sustainable" according to Sarasin's rating system*, while the rest are classed as "non-sustainable". One conspicuous feature is the way that the two groups started to move apart from about mid-2009 onwards, which is attributable to a combination of losses in local currency terms and negative exchange rate movements.
Overview: Sarasin's Sustainability Matrix for countries
Living beyond their means
The prices of sovereign bonds have fallen – in some cases quite dramatically – in the Southern peripheral European states under pressure from the euro debt crisis. For many years these countries have been living not only beyond their financial means, but also beyond their ecological means. Another factor is their ageing populations – a demographic shift that will become even more pronounced in future. In addition, less efficient resource use undermines competitiveness. There are also shortcomings in the political and social framework which should not be underestimated, such as wide-spread corruption or huge income disparity.
European debt crisis is also a rating crisis
The question is whether there were in fact any leading indicators for the sort of negative surprises that cropped up with Greek sovereign bonds. The "traditional" credit ratings of the big agencies were repeatedly cut virtually in parallel with the decline in the sovereign bonds' value and were therefore more a barometer of current trends than an indicator for the future. This is exactly the point where Bank Sarasin's sustainability analysis comes in, by attempting to identify risks and opportunities that are not yet factored into current prices but will most probably be monetised in the mid- to long-term.
Sustainable emerging economies fare better
The difference in performance is even more obvious in the case of emerging economies than for industrialised nations. The sovereign bonds of sustainable emerging economies have comfortably outperformed their non-sustainable counterparts for many years now – apart from a brief lapse during the global financial crisis. South American nations account for the bulk of sustainable emerging economies. In many respects these are exactly the opposite not only of the non-sustainable emerging economies such as China and Russia, but also the Southern European economies that are currently in crisis. The South Americans, for example, live within their ecological means for the most part and in many cases actually have some reserves. They will also be relatively unaffected by the ageing demographic. Their efficiency in translating resources into material wealth, education and health stands up very well in a global comparison.
Successful countries manage their resources efficiently
The problem of dwindling resources is set to worsen, rather than improve, in future. The efficient use of increasingly scarce resources will inevitably become more and more important. Because of this, only those countries with high resource availability and/or efficient use of resources will be successful and productive in the long run. And successful, productive countries will be better placed to meet their sovereign obligations in the long term, which also include making regular interest payments and capital repayments on their sovereign bonds. One frequent by-product of this economic success is a generally stronger currency in the long term. Both these arguments should be particularly interesting to bond investors.
* More details on the methodology used for this assessment can be found in the sustainability study published by Bank Sarasin in March 2010 "The world in a dilemma between prosperity and resource protection - Sustainability rating of sovereign bonds".
|Copies of Bank Sarasin's study "Sustainable fulfilment of sovereign obligations – Sustainability and performance of sovereign bonds" (author: Balazs Magyar) are available in English and German on payment of a copyright fee of CHF 50 or EUR 35 (free to clients and the media) from: email@example.com.|