Morocco to sell new EUR Eurobond. On 22 Nov, Economy and Finance Minister Mohamed Boussaid announced that Morocco (rated BBB- by S&P and Fitch, and Ba1 by Moody’s) would issue a EUR1bn Eurobond in late 2013 or early 2014. The tenor has yet to be disclosed, but we suspect this is likely to be a 10-y instrument based on previous experience.   With the sale of the new international notes, Morocco will become the second largest sovereign Eurobond issuer on the African continent (and the top issuer in North Africa) after South Africa. The country has two outstanding EUR Eurobonds due in 2017 (EUR500m) and 2020 (EUR1bn) and two USD bonds due in 2022 (USD1.5bn) and 2042 (USD750m). • Rising – but sustainable – public debt. Increased Eurobond issuance clearly reflects the government’s ongoing sizeable budget financing needs. External public debt has risen to around 31.3% of GDP in 2013 from 24.4% of GDP in 2009, according to the IMF’s consolidated figures. The government’s measure of Treasury foreign debt (which appears to leave out public-guaranteed debt) was around 14.1% of GDP in 2012 (versus 45.5% for domestic debt). This has also grown consistently in recent years. Nevertheless, the ratio of public debt service (offshore and onshore) to government revenue is still a reasonably sustainable 9.0% in 2013. • EUR issue will reduce external financing cost. There is certainly a cost rational behind the government’s decision to sell a EUR – rather than a USD – Eurobond. Indeed, the spread between US Treasury and German Bund yields has widened to multi-year highs in recent months, with the 10-y rates standing around 2.7% and 1.7%, respectively. Considering the spreads over the EUR and USD curves of the outstanding EUR 20s (262 bps) and USD 22s (272 bps), it seems obvious that a new EUR Eurobond will be issued at a lower interest rate, probably around 4.75% in the case of a 10-y instrument (vs 5.75% for a USD 10-y bond). A potential EUR 10-y yield guidance above 4.75% would therefore offer value to investors. • Limited FX risk. Morocco maintains a heavily managed exchange rate relative to a EUR-USD basket which is however largely dominated by the EUR and mirrors the close economic and trade relationship with the Eurozone. In fact, EUR/MAD volatility has been marginal in recent years, with the exchange rate fluctuating between a low of 10.9 and a high of 11.4 since 2009. Even though it is possible to hedge EUR/USD or USD/MAD risk in the case of a USD-denominated issue, selling a EUR-denominated instrument is the most straightforward way for the government to reduce its FX risk. • Liquidity and investor base. A EUR Eurobond will certainly prove cheaper from the government’s perspective, but a USD note would most likely still attract a wider investor base. Additionally, USD Eurobonds are generally more liquid than EUR instruments, as evidenced by the relative secondary market tradability of the 17s and 20s vs the 22s and 42s. • Limited upside for outstanding Eurobonds. The 22s and 42s sold off earlier this year amid a correction in emerging market debt assets and only recovered partially in recent weeks (less so in the case of the 42s) as fears of an imminent tapering of QE in the US subsided. Still at a spread of 272 bps (yield of 5.3%) and 321 bps (6.7%), respectively, further gains will be limited even assuming a broadly constructive risk environment in coming months as the market will expect Morocco’s USD instruments to trade wide to Turkey, Indonesia and South Africa’s Eurobonds. The same rational applies to the EUR 17s and EUR 20s which are already trading close to Turkey’s EUR notes. • Improving external position. Morocco’s Eurobond valuations should gradually start to benefit from an improving current account position. The large trade deficit appears to have stabilised in 2013 as imports in the energy, food and consumer good categories declined. Besides, the services balance surplus is likely to pick up, which should help reduce the current account deficit to 6.3% of GDP in 2013 and possibly 5.6% of GDP in 2014, from 8.6% of GDP in 2012. Meanwhile, FX reserves have stabilised since the IMF’s Precautionary Liquidity Line facility was signed in Aug 12 as confidence in the economy improved, reaching USD17.6bn (4.9-m of import cover) in Nov 13. • Declining nominal fiscal deficit…The authorities remain committed to fiscal consolidation and plan to bring the budget deficit down to 4.9% of GDP in 2014, from around 5.5% of GDP in 2013 and a high of 7.6% of GDP in 2012. Yet revenue is expected to decline marginally in 2014, while recurrent expenditure (including the wage bill) and the interest service will remain broadly unchanged. As such, the authorities intend to reduce the deficit by cutting the spending on subsidies (3.7% of GDP in 2014 from 4.4% of GDP in 2013) and capital expenditure (4.6% of GDP from 5.2% of GDP). • …But deeper reforms remain essential. The nominal allocation for subsidies is estimated at MAD35bn in 2014, from MAD40bn in 2013. But this excludes MAD7bn of arrears, which if serviced would bring the overall subsidy cost to MAD42bn and add an extra 0.7% of GDP to the effective fiscal gap. To be fair the authorities did introduce a partial adjustment of energy prices in Sep 13 which will apply beyond the USD105 pb oil price benchmark in the budget. Yet a more comprehensive – and controversial – reform of the “Caisse de Compensation” framework is required in the medium-to-long run to restore public finance sustainability. The urgency for the government to undertake pension system reform is also increasing as the latter looks set to accumulate a growing deficit from 2014 onwards. • Political and social considerations. Morocco has remained largely immune to the instability experienced by a number of MENA countries in recent years. The difference partially reflects the gradual liberalisation of the political regime since the mid-1970s and more recently the constitutional reforms introduced by King Mohammed VI. Interestingly, the reshaping of the ruling coalition led by the pro-Islamist PJD party in Oct 13, when the liberal RNI party joined the cabinet after pro-Istiqlal ministers left,  had virtually no impact on the Eurobonds. The political stability factor and the associated economic consequences certainly appear to explain the significant spread differentials between Moroccan and Tunisian/Egyptian Eurobonds. While the authorities have managed to avoid any significant political unrest associated with the Arab Spring, there are underlying social tensions that need to be addressed. Unemployment still stands at 9.1% in Q3:13 on official figures, even though it has progressively reduced from double-digit levels in the 1990s. That said, urban youth unemployment is significantly higher (37.8% and 19.3% in the 15-24 and 25-34 age brackets) highlighting evident social risks. • Outlook for structural transformation. Morocco’s economy is well diversified by regional standards, and the authorities are making some progress in developing higher value-added sectors, including the automotive, electronics and aeronautical industries. Interestingly, Morocco is also capitalising on growing opportunities in Sub-Sahara Africa, especially in finance, insurance and infrastructure, as illustrated by the rapid expansion of its banks into the sub-region.   Gadio Samir, Standard Bank

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