Chile Upgrade By Moody’s Highlights Divergence Within Emerging Markets
Moody’s upgraded Chile to Aa3 (equivalent to AA-), citing its “financial resilience” after the Feb earthquake. Moody’s also praised years of solid macro policies, the fiscal surplus rule, and low debt as other factors behind the move. We are not often surprised by ratings, but this one did. Yes, we like Chilean fundamentals, but our sovereign ratings model showed Chile to be correctly rated at A1/A+. S&P rates Chile at A+ and Fitch at A. Still, the move underscores the real divergence being seen between developed and emerging countries. Many developed countries are facing or will face downgrade pressures in the coming months, whereas EM (with the exception of Eastern Europe) is enjoying strong economic fundamentals and mostly upgrade pressures. We thought Peru would see the next upgrade in the region, as our model rates it BBB+/Baa1/BBB+ vs. actual ratings of BBB-/Baa3/BBB-.
Meanwhile, Chile’s central bank surprised the markets with a larger than expected 50 bp hike Wednesday to double the policy rate to 1%. A 25 bp hike was expected. The bank downplayed risks from the earthquake and the European crisis, calling them “limited”, and instead focused on falling unemployment and strong domestic demand as reasons to start withdrawing stimulus. It added that the pace of withdrawal will depend on unfolding domestic and external macro conditions, and will act to keep inflation anchored around 3%. So Chile now joins Brazil and Peru in the Latin American tightening cycle. We continue to believe that Colombia and Mexico are further behind in the cycle, with rates hikes unlikely until Q4 or even 2011. Risk appetite continues to swing back and forth, but initial targets for USD/CLP on the downside are 528.4 (38% retracement level of the 2010 rise) followed by 520.69 (50%). The peso is supported by strong economic fundamentals and should outperform if EM sells off again. Meanwhile, higher yields in the coming months should prove attractive for investors. Market was looking for a year-end policy rate of 2.75% before the hike, and should adjust expectations higher now.
Senior Currency Strategist
Brown Brothers Harriman & Co.