4 notches down underrated Philippines

(Limasawa Island, Philippines)

Credit rating companies are failing to keep up with the bond market in recognizing that the Philippines deserves to be classified as investment grade, Finance Secretary Cesar Purisima said.

"They need to adjust their model to reflect the realities," Purisima said in an interview at Bloomberg's headquarters in New York yesterday. "My biggest frustration is really with those watching from the outside."

The Philippines is rated two steps below investment grade at Moody's Investors Service and Standard & Poor's, in line with Turkey and Jordan. The average yield on the Philippines' foreign debt has declined 32 basis points, or 0.32 percentage point, this year to 4.13 percent, compared with an average of 4.26 percent for investment-grade countries, according to data compiled by JPMorgan Chase & Co.

Philippines bonds have rallied, and the cost to insure the securities against default has fallen, as the government cracked down on tax evasion and reduced debt levels. Both S&P and Moody's have a positive outlook on their ratings, indicating they may upgrade the classification.

"On the implied ratings, we are between three to four notches underrated, which is the largest gap in the world," said Purisima, who is in the U.S. to meet with investors and credit-rating companies. "What I am asking for is to reduce that gap."

(Caramoan Island, Philippines)

'Asset Bubbles'

The cost of protecting Philippines' bonds against default for five years with credit-default swaps is 179 basis points, 67 basis points below that of Russia, which is rated three notches higher at S&P, according to data compiled by Bloomberg.

Rating companies are facing increasing scrutiny from investors and regulators after their top ratings on bonds backed by U.S. subprime mortgages underestimated the risks of the securities and contributed to the global financial crisis in 2008. S&P's decision to strip the U.S. of its top credit grade in August was followed by gains in the nation's Treasury debt.

While rated four steps below Spain at S&P, Philippines raised funds in the international market at lower costs. The Southeastern Asian country sold $1.5 billion of 25-year dollar- denominated bonds in January to yield 5 percent in January. Spain's bonds with similar maturities yielded 190 basis points more.

Purisima, 52, said policy makers are examining foreign capital inflows and investment in real estate as they seek to ward off excessive increases in currency valuation and housing prices.

"We are monitoring carefully the situation to make sure we don't create problems down the road for us in terms of asset bubbles," Purisima said. "We are very far from the situation."

Peso Rally

The peso has rallied 2.2 percent versus the dollar this year, the best performer among the most-traded Asian currencies tracked by Bloomberg. The Philippine Stock Exchange Index climbed 16 percent this year, outperforming a 0.4 percent retreat for the MSCI Emerging Market Index.

Remittances from overseas workers and outsourcing from multinational companies, rather than speculators, are the main reasons supporting the peso, according to Purisima.

The government is trying to direct foreign capital into infrastructure investment to help boost growth, he said.

'Right Direction'

The Philippine economy expanded 6.4 percent in the first quarter from a year earlier, the fastest pace since 2010, as President Benigno Aquino boosted government spending to counter faltering global demand.

In December, S&P boosted the rating outlook to positive, while citing a narrow tax revenue base, low household income and high foreign debt burdens as constraints for credit improvement.

Philippines' per capita gross domestic product was about $1,383 in 2010, less than one third of Brazil, according to the World Bank. About 43 percent of its debt was denominated in foreign currencies, leaving it "vulnerable to adverse" currency movements, the S&P said in a statement on Dec. 16.

While there's room for improvement, the government is moving in the "right direction," as Aquino's administration cracks down on tax evasion and reduces the proportion of foreign bonds in the total debt mix, Purisima said.

Tax revenue increased 12 percent in April from a year earlier, according to the government data. In January, the Treasury raised $1.25 billion by selling 25-year peso bonds to global investors as part of its strategy to reduce the reliance on foreign debt for financing.

"The important thing is that we are pointing in the right direction and moving forward," Purisima said. "It's dangerous to look at measures in isolation."

Bloomberg Businessweek