Bond Traders Reap Big Returns From World's Autocratic Regimes

Nations with autocratic rule have in recent years been attractive to bondholders. “Under dictatorships, investors usually have better insight into who actual policy makers are”.

- Arif Sharif and Vivian Nereimm

Dictatorships are on a hot streak in the bond market. In the past year, sovereign notes from emerging markets under autocratic rule have returned 15 per cent on average, compared with just 8.6 per cent for securities from developing countries considered democratic, according to data compiled by Bloomberg. They also have better returns over the past two years, though beyond that the advantage fades.

For all the ugliness that often comes with authoritarian governments, the human rights abuses and the curbs on free expression, they often can be very rewarding for bondholders willing to turn a blind eye to those things in exchange for the stability that they can often foster.

This isn’t necessarily a brand-new phenomenon, of course, but a pair of events earlier this month served as a reminder of the outsize gains and losses it can trigger.

On April 12, Venezuela’s creditors reaped large returns when President Nicolas Maduro made good on $2.5 billion in debt payments even as he struggles to come up with enough money for food imports. Two days earlier, El Salvador, a democracy for the last quarter-century, defaulted as a feud between the president and an opposition party - a “high-stakes game of chicken,” as Nomura Holdings Inc. strategist Benito Berber called it - left the government unable to make a $29 million payment to a local pension fund.

“Investors typically view the bonds of an autocratic regime very negatively and assign a very high default probability,” said Victor Fu, the director of emerging-market sovereign strategy at Stifel Nicolaus & Co. But “in an autocratic regime, the government remaining in power is considered more important than people’s welfare. Since a bond default likely will raise the risks for the government to be thrown out, the ruling party will do its best to prevent a credit event.”