“There will be no more adventures. Greece’s place in Europe will not be put in doubt.”

Beirut MP Nabil Du Freij:“Taxes are increased when the economic conditions are improving, not when the economy is slowing.”

Simon Baugh, director of media and public relations at BAA, owner of London’s Heathrow airport, the world’s busiest international hub:“Even with a third runway, with the space Dubai has it’s not possible [to compete with Dubai]. Its growth is too big.”

“The ball is now in Greece’s court. It’s in their hands to win back the confidence of the people of Europe.”

German chants at the Germany versus Greece Euro 2012 football game: “Without Angie, you wouldn’t be here,” To which the Greeks replied: “We’ll never pay you back. We’ll never pay you back.”

“The government should work on two fronts: increase revenues to cut short the rising public debt and boost growth to lower the GDP-to-debt ratio. Otherwise, it would speed up the country’s economic collapse.”

“Even if they cannot achieve all of it in one fell swoop, I think if people have a sense of where they are going that can provide confidence and break the fever.”

Mohsen Derregia, chairman of the Libyan Investment Authority (LIA), on the $1.75 billion losses due to LIA’s investments in products managed by Goldman Sachs and Societe Generale: “We will have to see how these structured products were created, valued and managed. Then we will talk to the investment houses and see if we can claim a refund.”

“There are still a lot of unknowns for the market, which will be looking for direction from the street, the presidency and progress by the constitutional committee.”

“Every woman needs to be self-sufficient. You hear these yummy mummies talk about being the best possible mother and they put all their effort into their children. I also want to be the best possible mother, but I know that my job as a mother includes bringing my children up so actually they can live without me.”

Lebanon is an anomaly in many ways, and no less so when it comes to international credit ratings. While most of the world still depends on Fitch, Standard & Poor’s (S&P) and Moody’s to grade investment risk — even after their errors in the lead up to the global financial crisis — the reports of these ratings agencies simply do not carry the same weight in Lebanon.

Take, for example, S&P’s downgrade of the United States’ credit rating from AAA to AA+ last summer; the US equity index S&P500 fell 6.66 percent to 1,119 points the next day of trading. S&P’s recent lowering of its outlook for Lebanon, however, followed by a Moody’s downgrade of three Lebanese banks, resulted in… nothing.

There was no perceptible impact in the markets, with Lebanon’s credit default swap (CDS) spread — a proxy for default risk — remaining stable after both announcements, and shares of Bank Audi — the country’s largest by assets — staying level. 

Examining the ‘downgrades’

On May 28, S&P cut its outlook on Lebanon’s long-term sovereign credit rating to negative on the back of “domestic tensions and the escalation of violence in Lebanon [which could] potentially lead to a breakdown in the government.” As a result, on May 30, it also revised the outlooks of Bank Audi, BankMed and BLOM Bank from stable to negative due to their high exposure to the sovereign, given that “the banks’ financial performances are closely linked to Lebanon’s solvency.”

The following day, Moody’s revised the standalone credit assessments of 13 banks in Jordan, Lebanon, Pakistan and Ukraine. Bank Audi, BLOM Bank, and Byblos Bank, the three affected Lebanese banks, saw their credit assessment downgraded by one notch from Ba3 to B1 on the back of high exposure to Lebanese government debt, which Moody’s described as equivalent to 350 percent, more than 400 percent and just under 400 percent, respectively, of tier one capital, the core measure of a bank’s financial strength.

Moody’s said a second factor in its assessment was “moderate geographical diversification” outside of Lebanon, with foreign assets making up less than 30 percent of consolidated assets of Bank Audi, and around a third of those of BLOM Bank and Byblos Bank.

Limited market impact of agencies

“The valuations are not based on fundamental weaknesses of the Lebanese banks or [of] the economy,” emphasizes  Riad Salameh, governor of Banque du Liban, Lebanon’s central bank. “Hence the impact of these ratings on our markets have not been felt because most participants in Lebanese markets are players who know exactly the situation and can see the strong balance sheet at the Central Bank.” 

Salameh concludes that “downgrades in Lebanon don’t really affect the performance of banks and financing of the country.”

In fact, credit rating actions have less of an impact in Lebanon than in Western countries for three reasons: first, the country’s small international investor base; second, a sustained increase in deposits, and finally, a resilient population that trusts the banking system, allowing for competitive yields.

Small international investor base

The nature of the public debt and its holders makes any credit action somewhat irrelevant. In reality, even though banks have been trying to reduce their exposure to the sovereign, roughly 97.5 percent of the dollar denominated debt is still held by local investors, with the remainder mostly held by European and US funds forced to hold the Lebanese debt as part of their emerging market index-tracking strategy, according to Nassib Ghobril, head of economic research & analysis at Byblos Bank. 

When compared to the total amount of debt out there, Lebanon maintains a relatively small stock at some $54 billion, as well as a minor representation in broadly tracked indices (only 2.34 percent of JP Morgan’s EMBI Global index) — thus, international investor interest is low.

“The fact that the highly resilient and very well-capitalized banks hold most of the Lebanese debt… keeps a lid on credit default swap spreads and yields relative to the associated risks,” says Florence Eid, founder and chief executive officer of Arabia Monitor research and advisory firm.  “Additionally, given that banks tend to hold this debt to maturity, the illiquid secondary market also plays a part in eliminating some of the volatility.”

As a result, due to limited external funding, such revised outlooks or downgrades have limited impact.

Sustained increase in deposits

“Banks ratings are not as relevant in Lebanon, given that around 88 percent of their funding depends on private sector deposits; additionally they are concentrated,” explains Ghobril. “In fact, between 15 to 25 percent of depositors, depending on the bank, account for 75 to 85 percent of deposits, so if there is a panic, banks will rush to their large depositors to reassure them of market conditions.”

Ghobril adds that, “for events to truly affect deposit inflows or the rates, you would need extreme scenarios.”

Lebanon has only seen outflows of deposits three times since 2004, with a 5 percent outflow during the eight weeks after the Hariri assassination, which reversed afterwards, a 3 percent decrease in July 2006 when the war with Israel started (which stopped after the cease-fire) and a less than 1 percent outflow when the Hariri government collapsed in January 2011.

And currently, given the global uncertainties and near-zero interest rate environments in developed economies, there is evermore reason to believe that Lebanese deposits will stick, as moving them elsewhere would be just as risky.

Trust and competitive yields

Lebanon is one of the world’s largest recipients of remittances as a share of gross domestic product, with remittance inflows reaching $8.4 billion in 2010 (the latest figures available), totaling around a  fifth of GDP, according to the World Bank. The Lebanese Diaspora generally ‘believe’ in the country, notes the International Monetary Fund, and thus as long as there is trust in the banking system, the outlook of ratings will not affect markets. This is reflected in lower yields on Lebanon’s sovereign debt, even though political and geopolitical risks are growing. Depositors trust Lebanese banks even when things go wrong since the banks pay them relatively attractive interest rates, which have been effective over the past 20 years.

The Lebanese difference

History and experience provided enough confidence for investors to make their own assessment of the embedded political risk in the country, explaining Lebanon’s competitive yields compared to countries with similar credit ratings. The Lebanon 2026 bond issued in November 2011 with a 6.6 percent coupon, for a size of $725 million, currently trades above its offer price.

“This reflects mainly two aspects, which are unique to Lebanon credit risk,” explains Jamil Hallak, head of credit trading MENA at Deutsche Bank. “First, the bond is trading at a premium above re-offer and performed nearly 2 percent; and second, the average credit risk spread of Lebanese bonds curve is trading 100 basis points (bps) tighter than the CDS, which reflects the strong and real appetite for Lebanon credit risk.” 

In fact, markets have a dissociated attitude from the rating, since the debt is trading at rates that are similar to those of BBB rated countries. Looking at Egypt — which has the same S&P rating as Lebanon (rated B) but had a relatively stable political situation for years until the start of the uprising last year — the Egypt 2020 bond, with a 5.75 percent coupon carries a credit risk spread of 610 bps, compared to Lebanon’s 2020 bond with a spread of 428 bps. Further, Egypt’s five-year CDS is trading at around 700 bps, whereas Lebanon trades at only 490 bps.

Hence, political uncertainty is reflected in the case of Egypt and shows pure distress, whereas the Lebanese bond market is enjoying historically low yields. Lebanon’s five-year CDS yield is even lower than that of Spain and Italy, which trade at 573 bps and 512 bps, respectively, and are both rated BBB+.

A revision upwards?

If Lebanese banks continue to cut their exposure to government, while at the same time the government does not intend to decrease its borrowings, then the country will have to rely more on external funding — assuming that the Central Bank will not continuously fill the gap. In this case, credit ratings will begin to matter, as “the rating of Lebanon is an important issue for the international investor, especially when the country is not investment grade,” says Governor Salameh.

However, in order to have its outlook revised, the country must address several issues; Lebanon must reduce public spending, implement structural reforms — such as balancing the budget and establishing a proper debt management plan — as well as restore political stability and security. This will lead to an improvement in the country’s credit rating and its access to international capital markets.

Until these issues are tackled and international investors drawn to the country, ratings from companies like Moody’s will likely remain little more than letters.

NATACHA TANNOUS is Executive’s foreign correspondent in New York

Eurozone debt issues dominated market headlines yet again this month. The hefty 100 billion euro bailout of Spanish banks did not calm investor nerves, neither did the Greek elections which left the near-bankrupt country in the Eurozone for now. With credit rating agency Moody’s downgrading 15 global banks and financial institutions in June, the highly volatile and uncertain environment seem likely to grip the markets in the foreseeable future. For this month’s investment recommendations, Executive spoke to Henri Chaoul, chief executive officer of Master Capital Group and recently appointed chief investment strategist at Al Khabeer Capital, and Walid Abousleiman is the chief executive of Aksys Capital.

Henri Chaoul

Top recommendations: short the Euro and invest in private equity

More pain to come in Europe?

“There has been some binge drinking, and you can not keep on drinking and assume the hangover will go away. You will need to stop, and digest it and it will have to be painful,” says Chaoul when asked about the European sovereign debt crisis. He believes that unless Europe addresses its structural problems, injecting cash — such as the chunky bailout of Spanish banks — will only postpone the problems. He does not expect a solution anytime soon and sees more issues ahead as he warns that French and German banks hold the bulk of the debt of European peripheral countries. “The German taxpayer will prefer to recapitalize his bank then to pay for the retirement of a Greek who retires at 55, whereas the German retires at 65.”  With this cautious stance, he would recommend shorting the euro versus the US dollar.

Short European markets too?

“Exactly the opposite” says Chaoul. He recommends starting to build positions in Europe as he sees a full pricing of the European crisis. This contrasts with the US markets, which has not yet priced in its fiscal problem, according to Chaoul. “The US is coming toward a fiscal cliff which will lead to a huge break on the growth of economy” says Chaoul. As this year is a presidential election year, the Democrats and Republicans have been avoiding tackling this issue and “come November 6 (US presidential election day), they will be left with only five to six weeks to figure out how to fix this fiscal problem.”  He states that he won’t be surprised if the US faces another credit rating downgrade.

Top investment recommendations?

With an uncertain and highly volatile environment, Chaoul favors “a flight to safety” and recommends investing in gold and silver. He also strongly recommends that investors start investing in private equity (PE) as he sees huge opportunities in the region, especially in Saudi Arabia and Egypt. He would invest in Syria for its cheap entry point and he sees some “gems” in the manufacturing industry. As for Lebanon, he would not invest in the highly illiquid Beirut Stock Exchange; neither would he invest in government bonds.

Walid Abousleiman

Top recommendations: Short the euro, invest in gold and buy Solidere

More pain in Europe?

Abousleiman believes that Europe is “still in the middle of the crisis” and unlike Chaoul, he would not recommend exposure to any European financial instrument for now, including equities. He would stay on the sidelines and keep an eye on the austerity measures implemented by European governments. Abousleiman recommends shorting the euro relative to the US dollar.

Top investment recommendations?

 Abousleiman recommends holding a third of the portfolio in cash or cash equivalents, a third in gold and a third in US large cap equities. He would stay away from fixed income, both government and corporate. As for the Middle East and North Africa markets, he would invest in Saudi Arabian equities and to a smaller extent in Qatari equities. As for Lebanon, he would buy Solidere for its “good entry point” but he would not invest in any other Lebanese stock. He also recommends both government bonds and term deposits, which offer attractive rates.

Thoughts on private equity?

Unlike Chaoul, he would not recommend investing in PE and believes there is no appetite for PE in the region because of the lack of security and political stability. “If you’d asked me, before the Syrian crisis I would say it’s a good investment. For now I’d shy away.”

United States takes bulk of Lebanese financial sector’s foreign investment

The financial sector in Lebanon had a $7 billion exposure to foreign debt and equity securities as of the end of last year, representing an 11 percent increase on 2010, according to the central bank. The bulk of the exposure was in long-term debt securities (56 percent) followed by equity securities (42 percent) and a minimal exposure to short-term debt securities (2 percent). For the investment in equities, the United States received the bulk of the flows accounting for 58 percent of the total followed by the United Kingdom at 12 percent, Bahrain at 8 percent, France at 4 percent and Saudi Arabia at 3 percent. For the long-term debt securities, the US and the UK were again in the lead accounting for 31 percent and 22 percent of the total investment respectively. They were followed by the United Arab Emirates and France at 9 percent and 4 percent, respectively. As for short-term debt securities, China accounted for the majority at 38 percent of the total investment.

Beirut most expensive Middle East city for expats

Beirut is the most expensive city for expats to live in the Middle East, according to consultancy firm Mercer’s 2012 Worldwide Cost of Living Survey, which ranks 214 cities. Beirut ranked 67th — up eight spots on last year (read more on cost of living in Lebanon in our report on page 29). Abu Dhabi, which was ranked the most expensive in last year’s survey, dropped to second spot this year. It was followed by Dubai, Amman and Riyadh. The survey took into account the prices of over 200 factors from housing to food and clothing to transport. Fuelled by a higher yen against the dollar, Tokyo was ranked the most expensive city worldwide, displacing Angola’s capital Luanda. Luanda was followed by another Japanese city, Osaka for the third spot. Moscow and Geneva came in fourth and fifth respectively. Paris, Amsterdam, Rome and London dropped in the rankings on a weaker euro, higher unemployment and falling incomes. Karachi, Pakistan’s largest city, was the cheapest for expats to live in among the 214 cities surveyed.

World Bank raising $500 million for the Middle East

The World Bank is looking to raise $500 million for a fund dedicated to the Middle East and North Africa region to take advantage of investment opportunities following the turmoil in the Arab world, according to Reuters. The International Finance Corporation (IFC), a unit of the World Bank focused on supporting the private sector in emerging economies, will set up the fund, into which it will inject $100 million. The fund’s first closing is expected in the next three months. The IFC, which has already invested $3 billion in the region since the beginning of the turmoil, is investing another $2.2 billion to $2.4 billion over the next year. The IFC intends to increase lending by 20 percent to Europe, Middle East and North Africa, to reach a total of $6 billion this year.

Lebanese loans on the rise

Outstanding loans to the private sector held by the banking sector in Lebanon reached $44 billion at the end of 2011, up 13 percent relative to 2010, according to the central bank. The bulk of the increase went toward housing loans, up 33 percent year-on-year to stand at $6 billion (see page 68). The construction sector recorded $7 billion in loans, up 13 percent on 2010. The manufacturing sector was up the same amount, standing at $5 billion. Services and trade loans increased 10 percent year on year and amounted to $15 billion. The agricultural sector accounted for a meager $426 million in loans, increasing by 16 percent relative to last year. The central bank also recently released data on the number of cleared checks for the first five months of the year that rose by $5.29 million, up from a similar rise of $5.23 million during the same period last year to come in at $28.75.

Fitch downgrades Egypt

On the eve of the presidential elections, Fitch, one of the top three global credit ratings agencies, downgraded the long-term foreign currency rating on Egypt to B+ from BB-. The outlook on the rating is negative, which implies that it could be downgraded further in the next 12 to 18 months. “The downgrade and negative outlook reflect increased uncertainties surrounding the political transition following yesterday’s ruling by the Supreme Constitutional Court to annul parliamentary elections and dissolve parliament,” said Richard Fox, head of Fitch’s Middle East and Africa sovereign ratings. Standard & Poor’s, another of the top three rating agencies, has a B rating on Egypt which is one notch lower than Fitch’s; Moody’s has a similar rating at B2. Mohamad Morsi of the Muslim Brotherhood was declared Egypt’s new president in the country’s first democratic presidential elections, gathering some 52 percent of the votes. His rival, Ahmad Shafik, Egypt’s former prime minister under deposed president Hosni Mubarak’s rule, gathered around 48 percent.

Qatar invests in French hotels, China and gold

Qatar Investment Authority (QIA), the country’s sovereign wealth fund, is continuing its spending spree, this time deploying $2 billion for a 49 percent stake of billionaire Eike Batista’s AUX gold business. The sale follows the decision by EBX Group, the holding company, to shelve plans to take the company public. Back in October, Batista, Brazil’s richest man, had claimed that AUX holds 7.2 million ounces of gold reserves following the acquisition of Vancouver based Ventana Gold for $1.05 billion in March of last year. QIA has also requested approval for a license and a $5 billion quota for investments in China under the nation’s Qualified Foreign Institutional Investor program (QFII). It aims to deploy the capital mainly into the equity markets. Qatar is also set to acquire four French hotels from American hotel group Starwood Capital, though no details on the transaction were available as Executive went to print. The hotels to be purchased include the renowned Martinez hotel in Cannes on the French Riviera and the Concorde La Fayette in Paris.

Top three winners of “Grow My Business” competition announced

A competition pitting Lebanese start-ups against each other for the best business plans to enhance growth of their companies ended with the announcement of the three winners. The top prize of LL50 million ($33,000) went to ADTech, an electronics retailer start up. The second prize, LL20 million ($13,000) went to Oliver Tree, which develops products based on olive oil. The third prize, LL10 million ($6,600), went to Wixel Studios, a developer of web games, web animations and websites. The jury was composed of members of the Beirut Traders Association (BTA), MIT Enterprise Forum-Pan Arab Region and Bank Audi. “Our aim is to create employment opportunities,” said Hala Fadel, chair of the MIT Enterprise Forum of the Pan-Arab region.  Nicolas Chammas, chairman of BTA, added that, “The purpose of this competition is to give a tangible added value to small-and-medium-sized companies, to uplift the professional standards of the commercial sector as a whole and to contribute to the sustainable development of the national economy.”

Lebanon issues $2 billion Eurobonds

Three Eurobonds worth a total of $2 billion were issued by Lebanon’s Ministry of Finance for the purpose of redeeming early and cancelling treasury bills in Lebanese lira held by the central bank. These Eurobonds will be listed on both the Beirut Stock Exchange and the Luxembourg Stock Exchange. The first Eurobond, worth $800 million with a June 2025 maturity and a 6.25 percent coupon, and the second Eurobond worth $700 million with a June 2018 maturity and a 5.15 percent coupon, will both be exchanged for five-year T-bills maturing in 2016 with a 6.18 percent coupon. The third and final $500 million Eurobond, maturing in June 2015 with a coupon of 4.1 percent, will be exchanged with five years T-bills similar to the ones of the first two Eurobonds as well as with three year T-bills maturing in 2015 with a coupon of 6.48 percent.