Aggressive Action by Fed this week: A Recessionary Warning?

The Lebanese Eurobonds followed further depreciation this week and traded at around the 8 cents. In fact, the Bank of America published a report about the future of Lebanese bond market and assessed whether the Lebanese Eurobonds are recoverable. Several scenarios were introduced to assess the path of recovery which depends on the political class’ desire to pursue implementation of an IMF program. If an IMF program concludes in the second half of 2022, recovery value would range between 10 cents and 20 cents with an exit yield of 14%. However, if IMF program talks conclude in first half of 2023, recovery value would likely range between 7 cents and 14 cents only. Nevertheless, without an IMF program, the Eurobonds may not be recoverable and thus the weighted average recovery value would be in mid-single digits; and any prolonged delay to an IMF deal could push out possible cash-flows and worsen the economic outcomes and more likely would be associated with higher face-value cuts and exit yields with major economic costs on Lebanon.

Amid these disruptions, the BLOM Bond Index (BBI) which is BLOMInvest Bank’s market value-weighted index tracking the performance of the Lebanese government Eurobonds’ market (excluding coupon payments), recorded further drops of 23.63% YTD and 4.89% weekly to stand at only 8.37 points by the week ending June 16, 2022 compared to the week of June 09, 2022. As for the JP Morgan EMBI, it slightly retreated by 3.23% to stand at 750.91 by the end the week of June 16, 2022, compared to 775.96 at the end of the week of June 09, 2022.

Furthermore, the yield on the 5 years (5Y) and 10 years (10Y) Lebanese Eurobonds registered a notable increase of 323 and 320 basis points (bps), respectively to end the week of June 16, 2022 at 104.40% and 85.25%.

In the US, the yields on 5-year and 10 year recorded a jump by 28 and 24 basis points to settle at 3.35% and 3.28%, respectively by the week ending June 16, 2022.

This week in the U.S, the Fed raised its target interest rate by 75 bps, its biggest rate hike since 1994, and projected a slowing economy and rising unemployment in the months to come. The FOMC raised also its benchmark rate to a range of 1.5% to 1.75% from 0.75% and 1 % previously.

The tightening of monetary policy was taking at a time Treasury yields rose after the hotter inflation report flattening the yield curve. This scenario means shorter duration yields like the 2Y raised closer to longer duration yields with the 5Y yields being higher. If the 2Y were to move above the longer duration yields, the curve would be inverted, which is a recessionary signal. Hence, maintaining economic growth would be a challenge for the Central Banks all around the world.

In turn, the 5Y and 10Y spread between the yield on Lebanese Eurobonds and their US comparable recorded an increase from 9,810 bps and 7,901 bps to 10,105 bps and 8,197 bps by the week ending June 16, 2022.

Weekly Change of Lebanese Eurobonds Prices 

Source: BLOMInvest Bank