Mongolia hopes for a ratings upgrade

Choijilsuren Battogtokh, head of Mongolia's budget committee, explains why better than expected economic data and a restructuring of the banking sector are improving the country’s credit metrics.

The Government of Mongolia hopes international rating agencies will acknowledge the steps it is taking to structurally overhaul the economy with further upgrades to its B3/B-/B- rating this year.

The country’s finances have certainly come back from the brink over the past 12 months. The government started 2017 facing a looming sovereign bond default, but ended it with two successful liability management exercises to its name, plus a FinanceAsia accolade as Borrower of the Year.

But if 2017 was the year when events forced the recently-elected Mongolian People’s Party to adopt difficult measures, then 2018 will the one, which shows whether it has the political mettle to push through deeper-seated reforms as the economy improves.

The government says it has the will and the conditions of the country’s latest International Monetary Fund (IMF) package have been formulated to try to make sure it stays on track.

Mongolia’s former finance minister, Choijilsuren Battogtokh, is the man who oversaw Mongolia’s two recent international liability management exercises (one exchange and new issue, followed by one tender and new issue). He is now chairman of the standing committee of the Great Khural (Mongolia's parliament) and head of its powerful budget committee. 

In the following interview, he explains why he believes the country deserves an upgrade from its B3/B-/B- status from Moody’s, Fitch and Standard & Poor’s (with respective stable/positive/stable outlooks). Moody’s upgraded the country from Caa1 in January, but the Government of Mongolia still has a little way to go before it regains the B2/B/B level it held in 2016.

However, if Mongolia's credit spreads are anything to go by, then investors clearly believe it is already there. For the Government of Mongolia is currently trading 56bp tighter than the B3/B/B higher rated Islamic Republic of Pakistan.

Its 8.75% March 2024 deal is yielding 6.096% on a mid-price of 113.23%. By comparison, Pakistan’s 8.25% April 2024 bond is yielding about 6.66% on a mid-price of 107.885%.

This means that investors, which took part in Mongolia's exchange and new bond deal in March 2017, have been richly rewarded. At the time the deal was executed, Mongolia was trading 150bp wider than Pakistan based on the 7.625% yield the exchange was priced at.

Should they continue to keep faith with the country?  Battogtokh explains why they should.          

How worried were you ahead of the March 2017 bond deal? Did you think it would be ok because the IMF had provisionally agreed an Extended Fund Facility?

No I thought there were a lot of things to be worried about at that time. There had been discussions about Mongolia at the Paris Club. Even some IMF staff members were querying whether a market driven solution would work. 

The timing was critical for us. If we failed, we could have ended up defaulting.

So I’d really like to thank our investors for having faith in Mongolia, plus our investment banking advisors and Mr Florian Schmidt for doing such a good job in arranging the deal.

Did you adopt a different strategy when you came to market in October as your spreads had tightened a lot by then?

Yes much had changed by the time we did the second issue and it was a lot easier. At that point, economic growth had risen to 5.8% and export growth was exceeding expectations.

What’s your strategy for 2018? You’ve pushed out your external maturities to 2021, but in January Moody’s estimated that 2018 liabilities still stood at 1.5 times foreign exchange reserves.

Actually we repaid $500 million that was due this January through the October bond. At the end of May, we have to repay our CNH1 billion ($160 million) dim sum bond, but we have the resources to pay that as well.

So we don’t have a problem. We’ve re-built our reserves to a good level.

At the end of 2016, they stood at $1.4 billion. At the end of 2017, they had increased to $3 billion.

Then as of late January, they had risen again to $3.2 billion. By the end of the year, I think we’ll surpass $4 billion. That will give us about four to five months import coverage.

So you don’t plan to come back to the international bond markets this year then?

No we don’t plan to.

One of the government’s big strategic goals, this year, is overhauling the banking sector where the IMF estimates there is a $748 million capital shortfall. What stage has this reform reached?

The Asset Quality Review is almost finished. The results I’ve seen have been more positive than we were expecting.

After this we’ll stress test the banking sector. The first review was done using 2016 data, but the stress tests will use 2017 data so that will give us a more complete picture.

Then they have until the summer to re-capitalise themeselves. There has been talk this date might be pushed back to October. What’s your view?

Personally I don’t want us to lose any time. The date has not changed.

And I believe Mongolia is setting up its own version of a troubled asset relief programme (Tarp) and the state will take stakes in banks, which cannot re-capitalise themselves. How long will the banks have to repay those stakes and if they cannot, is the plan to sell those stakes off?

We’re still discussing the matter. After we’ve completed the stress tests, we might hire an advisor to help us devise a plan. So it’s not finalized whether we will set up a form of Tarp yet. If further capital is needed, we expect banks' current owners to top it up rather then the state.

If they cannot, does that mean the domestic banking sector is likely to be opened up to foreign investment?

We’ll proceed step by step to integrate ourselves into the international banking sector.

The first thing we’d like to do is to lift our credit rating and reduce our fiscal deficit. The current account was positive at the end of last year and there should be a $1 billion surplus by the end of this year.

The government is also working very hard to expand the export sector so the economy is more diversified. This process has already started.

For instance, there was growth in all five animal husbandry sectors. In 2016, meat exports amounted to less than 10,000 tons. Last year, the figure had risen to 26,800.

Mongolia is the world’s second largest producer of raw and washed cashmere. We have annual production capacity of 9,000 tons and last year we processed more than 3,000 tons domestically.

When you executed the March 2017 bond issue, you were only projecting 1.8% growth in 2017, so you vastly exceeded expectations and the IMF has revised its forecasts upwards twice since it put the Extended Fund Facility in place. What’s your forecast for this year?

The government is projecting a 4.2% growth target in 2018, while the central bank is forecasting 7.5%.

In coming up with 4.2%, we’ve very been cautious and calculated all the risks to the economy. But the reality is the rate could go up to 6% in 2018.

Our medium-term target is to stay between 6% and 8%. I want to make it clear that we are really serious about improving financial discipline.

That’s why we’re working on export-driven economic growth so we can stabilise our growth rate. We want to avoid wild swings from 1% to 18%. Our medium term goal is to have stable growth all the time.  

How will that feed into your credit rating? You say you are working on getting an upgrade.

Yes we want to try and achieve an upgrade, but we have to show the agencies actual results. Moody’s just upgraded us at the beginning of the year and we hope to speak to Fitch, which has us on positive outlook when we have the second quarter data.

Export growth could well be higher than projections. Commodity prices are also increasing and budget metrics are improving. These positive results are already expected during the first quarter.

Over the slightly longer term, the Oyu Tolgoi copper mine will come on stream in 2021.

So what message would you like to leave investors with?

Please believe in Mongolia!!

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