Fitch downgrades Angola to 'CCC'

Fitch Ratings has downgraded Angola’s Long-Term Foreign-Currency (LTFC) Issuer Default Rating (IDR) to ‘CCC’ from ‘B-‘.

Fitch typically does not assign Outlooks or apply modifiers to sovereigns with a rating of ‘CCC’ or below.

A full list of rating actions is below.

KEY RATING DRIVERS
The downgrade reflects a sizable increase in Angola’s government debt, reduced external financing flexibility as evident in a sharp rise in sovereign bond yields and declining external liquidity. The fall in global oil prices has exacerbated key vulnerabilities in the Angolan economy, leading to lower external receipts and a sustained weakening of the kwanza; this has resulted in increasing debt servicing costs and downward pressure on fiscal and external buffers. In Fitch’s view these factors increase risks to the government’s capacity to service its debt liabilities over time.

The sustainability of Angola’s government debt has deteriorated and weak public finances will inhibit the authorities’ ability to significantly lower debt levels over our two-year forecast horizon. By end-2020, Fitch forecasts general government debt to increase to 129% of GDP, or 850% of government revenue, which is more than twice the ‘B’ median forecast of 356% and is indicative of Angola’s difficulties in increasing non-oil revenue.

In 2020, the combination of lower oil prices and production cuts under the OPEC+ agreement will lower oil revenue by between 3pp and 4pp of GDP, compared with 2019. Cuts to capital expenditure and non-health related current expenditure will not offset the increase in debt servicing costs, which we forecast to increase to 48.3% of revenue, more than three times the ‘B’ median of 13.2%. As a result, we forecast the general government fiscal deficit to widen to 4.3% of GDP in 2020, from 3.5% in 2019.

Also read: Bank of Angola provides US$200M for September auctions

We forecast the deficit to narrow in subsequent years as higher oil prices and new tax measures implemented in 2019 contribute to a recovery in revenue. However, unfavourable debt dynamics will keep Angola’s debt burden high. In recent years, the debt/GDP ratio has continued to rise due to FX depreciation and real GDP declines even as the government achieved primary surpluses. In 2020, we estimate that FX depreciation will be responsible for 18pp of the increase in debt/GDP. Barring additional external shocks, government debt will stabilise in 2021 but we forecast that government debt will remain above 120% of GDP through 2022.

Fitch estimates Angola’s sovereign external debt servicing costs at US$6.9B, or 12.3% of GDP, in 2020, but we expect that approximately US$2.5B in bilateral debt service payments will be re-profiled. The Paris Club has announced an agreement under the G-20 debt service suspension initiative for Angola and this will likely be matched by comparable treatment from non-Paris Club lenders, specifically Chinese lenders, who hold more than 40% of Angola’s external debt.

We expect the government to meet the remaining US$4.4B in 2020 payments through a combination of multilateral lending, withdrawals from the sovereign wealth fund, and the drawing down of external reserves. Angola’s current IMF Extended Credit Facility is scheduled to disburse approximately US$1B in 2020. The most recent review of the programme has experienced delays, which Fitch believes reflects IMF concerns regarding Angola’s external liquidity and the sustainability of government debt. Our baseline scenario assumes that the IMF will conclude a debt sustainability analysis that finds Angola’s debt at a high level of distress but not unsustainable, which, along with the debt re-profiling, will allow the planned disbursements plus an additional US$400M in IMF lending. We also expect the IMF programme will catalyse an additional US$1B in support from the World Bank and African Development Bank. The sale of financial assets from Angola’s sovereign wealth fund will provide as much as an additional US$1.5B in external financing. The remainder will come from external reserves.

We expect the sovereign to meet its 2020 external financing needs but the total external position of Angola’s economy will continue to weaken, increasing the risk of a default event in subsequent years. We estimate that total external debt servicing costs, including servicing on debt held by the private sector, will still reach US$8B (14% of GDP) in 2020, which we forecast to equal 40.3% of current external receipts (CXR). By comparison, the current forecast for ‘B’ rated sovereigns is 12.8% of CXR. High debt servicing will be coupled with an expected current account (CA) deficit of 6% of GDP, versus a 6% CA surplus in 2019. As a result, FX reserves will continue to fall. Fitch forecasts gross international reserves to fall to US$15B by end-2020, from US$17.2B at end-2019.

Angola’s gross reserves will remain high relative to peers’, 7.6 months of current external payments at end-2020 compared with the current ‘B’ median of 3.8 months. However, the net reserves position is likely to fall below US$10B in the absence of new financing sources. Furthermore, the National Bank of Angola will continue to be the main supplier of hard currency to the economy. Future downward pressure on the kwanza would leave the authorities with the choice of either selling more dollars to support the kwanza or conserving FX reserves, which would decrease foreign-currency liquidity and hinder economic recovery.

Angola’s ‘CCC’ IDRs also reflects the following key ratings drivers.

The Angolan economy continues to be constrained by its high level of commodity dependence, which contributes to low growth and increased macroeconomic instability. Contraction in the oil sector, combined with resulting tight dollar liquidity, will keep Angola in its fifth straight year of recession. Fitch forecasts growth to contract 4% in 2020. Inflation will accelerate to a 24% annual average in 2020, well above the ‘B’ median forecast of 4.8%.

Reforms in the hydrocarbon sector and new investment may help to stabilise the long-term decline in oil production. Oil production increased to 1.4 million of barrels per day (mobpd) in 1Q20, up slightly from 1.35 mobpd in 4Q19, but fell again as the government phased in cuts under the OPEC+ agreement. Fitch forecasts production to average 1.3 mobpd in 2020 and we expect production to remain at broadly the same level in 2021.

Angolan banks will face increased economic challenges as the coronavirus pandemic shock extends Angola’s recession. The authorities have taken a number of measures to support lending, including lowering rate on the seven-day standing deposit facility and implementing a credit support programme for lending to small-and medium-sized enterprises. However, the government’s increased call on the domestic debt market will also contribute to crowding out private sector lending. We forecast real private sector credit growth to contract in 2020. Already-poor asset quality will likely continue to weaken, reflecting banks’ high level of exposure to the hydrocarbon sector.

Fitch’s affirmation of the Country Ceiling at ‘B-‘, a notch above the LTFC IDR, reflects our view that the probability of the sovereign imposing capital or exchange controls that impede the private sector’s ability to access foreign exchange and make debt service payments is less than the sovereign’s probability of restructuring or default.

ESG – Governance: Angola has an ESG Relevance Score (RS) of 5 for both Political Stability and Rights and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption, as is the case for all sovereigns. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in our proprietary Sovereign Rating Model (SRM). Angola has one of the lowest WBGI rankings among Fitch-rated sovereigns, at 18.3, reflecting weak rights for participation in the political process, weak institutional capacity, uneven application of the rule of law and a high level of corruption.

SOVEREIGN RATING MODEL (SRM) AND QUALITATIVE OVERLAY (QO)
In accordance with its rating criteria, for ratings in the ‘CCC’ range and below, Fitch’s sovereign rating committee has not utilised the SRM and QO to explain the ratings, which are instead guided by the rating definitions.

Fitch’s SRM is the agency’s proprietary multiple regression rating model that employs 18 variables based on three-year centred averages, including one year of forecasts, to produce a score equivalent to a LTFC IDR. Fitch’s QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.

RATING SENSITIVITIES
The main factors that could, individually or collectively, lead to positive rating action/upgrade are:

Public Finances: A firm decline in general government debt over time, for instance through increasing non-oil revenue mobilisation, or a reduction in the share of foreign-currency or foreign currency-linked debt.
External Finances: The rebuilding of external reserves that could occur as a result of higher oil receipts or the identification of additional external financing sources.

The main factors that could, individually or collectively, lead to negative rating action/downgrade:

Critical weakening of the government’s capacity to secure financing to meet debt servicing obligations.
Indications that the authorities are planning a restructuring of sovereign market debt.

BEST/WORST CASE RATING SCENARIO
International scale credit ratings of Sovereigns, Public Finance and Infrastructure issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of three notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from ‘AAA’ to ‘D’. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

KEY ASSUMPTIONS
Fitch expects global indicators, including oil prices, to move in line with Fitch’s Global Economic Outlook forecasts.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG CONSIDERATIONS
Angola has an ESG Relevance Score of 5 for Political Stability and Rights as World Bank Governance Indicators have the highest weight in Fitch’s SRM; this is highly relevant to the rating and a key rating driver with a high weight for Angola, which ended an almost 30-year civil war in the early 2000s.

Angola has an ESG Relevance Score of 5 for Rule of Law, Institutional and Regulatory Quality, and Control of Corruption as Angola has the lowest score among Fitch-rated sovereigns on the Control of Corruption pillar of the World Bank Governance Indicators; this is highly relevant to the rating and a key rating driver with a high weight.

Angola has an ESG Relevance Score of 4 for Human Rights and Political Freedoms as Angola scores lower than peers on the Voice and Accountability pillar of the World Bank Governance; this is relevant to the rating and a rating driver.

Angola has an ESG Relevance Score of 4 for Creditor Rights as willingness to service and repay debt is relevant to the rating and a rating driver, as for all sovereigns.

Except for the matters discussed above, the highest level of ESG credit relevance, if present, is a score of 3. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or to the way in which they are being managed by the entity. For more information on Fitch’s ESG Relevance Scores, visit www.fitchratings.com/esg.