Analysis: Brazil faces $112 billion refinancing cliff in early 2021

Almost all of Brazil's debt is denominated in reais and over 90% of it is held by domestic investors, many of whom are compelled to hold it by banking rules

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  • Treasury officials in Brazil said there will be no problem getting investors to extend their loans;
  • Financial analysts see little risk of a boycott by lenders.

Brazil’s debt has ballooned to unprecedented levels due to the COVID-19 pandemic and the government faces a $112 billion refinancing cliff early next year, with April’s funding needs the highest ever for a single month.

Publicly, at least, Treasury officials in Latin America‘s top economy insist there will be no problem getting investors to extend their loans. Their so-called liquidity cushion can cover at least three months of borrowing.

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Additionally, almost all of Brazil‘s debt is denominated in reais and over 90% of it is held by domestic investors, many of whom are compelled to hold it by banking rules.

Financial analysts also see little risk of a boycott by lenders, which would likely trigger a serious crisis and wreak havoc on Brazilian financial markets.

But the chances of the Treasury running into difficulty rolling over the debt, due to sudden unfavorable political, economic or market conditions, are not zero. And it is likely to pay a premium for shifting so much debt at once, analysts say.

According to Treasury figures, some 605 billion reais ($112 billion) of domestic federal debt is coming due in the first four months of next year. That is 14.1% of Brazil’s domestic debt pile of 4.82 trillion reais.

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The month to watch is April, when 283 billion reais of debt needs to be rolled over. That is 6.6% of Brazil’s outstanding debt and will be the biggest single month for maturing debt on record, according to the Treasury.

“It’s a big amount, and if people want to cut back their exposure a bit for whatever reason, it becomes a significant amount,” said Sergi Lanau, deputy chief economist at the Washington-based International Institute of Finance (IIF).

“It’s not a great situation to be in, but it would be a lot worse if it was external debt. We are not too concerned about the bunching of maturities. If anything goes wrong at that time though, then you are exposed,” he said.

IIF analysis shows that the government’s domestic debt maturing in April amounts to 3.7% of GDP, also an all-time high for a single month.

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Economy Minister Paulo Guedes has said he sees “no problem” for the Treasury rolling over its debt. Around half of the BRL 600 billion coming due early next year may already covered by an influx of cash from the central bank and public sector banks, he said.

Steep curve

The government’s surprisingly aggressive fiscal response to the pandemic, mainly via direct income transfers to the poor, has exploded its deficit and debt to record levels far above most other emerging countries.

Brazil’s primary deficit, excluding interest payments, is forecast to hit almost 12% of GDP this year, with overall debt rising to around 95% of GDP, according to the government.

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That has forced the Treasury to borrow more, increasingly in short-dated paper because it is cheaper and because growing concern around the fiscal outlook means investors are reluctant to lend longer term to the government.

While reducing the average length of debt maturities and record low official interest rates have brought average interest costs down to their lowest on record, the so-called “roll over risk” for the Treasury has increased sharply.

“The problem would be if we can’t sell any bonds. But we shouldn’t be too worried, there is money in the system,” said a rates specialist at a hedge fund in Sao Paulo.

“Treasury will not run out of cash: that’s not the problem. But it will continue to pay higher rates and see a steep curve,” he said.

The difference between longer- and short-dated interest rates has widened sharply. Pre-pandemic, the gap between January 2022 and January 2027 rates futures was 180 basis points or less. That tripled to 460 basis points in September, and is now creeping back up to that all-time peak.

The Treasury has failed to sell the full allocation of bonds on offer at several auctions in recent weeks, both fixed-rate ‘LTN’ notes and floating-rate ‘LTF’ notes linked to the central bank’s official Selic rate.

To attract buyers, Treasury has had to pay higher premiums. It has also relied on other sources of financing, including a recent transfer of 325 billion reais from the central bank.

Waldery Rodrigues, special secretary to the economy ministry, said last week that the central bank selling some of its foreign currency reserves to pay down debt is “on the menu” for next year, although that decision rests with the central bank.

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