Fresh off a $1.5 billion return to the cross-border bond market, Uruguay is looking to diversify its funding sources with an untested wage-indexed bond designed to encourage wider participation from the private sector.
In the second half of the year, Uruguay aims to unveil the Unidad Previsional (UP) debt security, a traded instrument that targets insurance companies, Herman Kamil, the head of sovereign debt management at the Ministry of Economy and Finance (MEF), told LatinFinance in an interview at the World Bank-IMF spring meetings in Washington DC.
“Insurers have their liabilities indexed to wages,” he said. “But right now, there is no product in Uruguay’s local market indexed to wages.”
Insurance companies have mostly bought debt tied to the consumer price index, or CPI, but Kamil said there was a mismatch because Uruguay’s wages have grown faster than the CPI.
“That mismatch creates problems. Real wages have fortunately gone up,” he said. “By issuing debt linked to wages, that can eventually be bought by insurers, to match the composition of both sides of the balance sheet.”
Uruguay’s Congress passed a bill earlier this month to create the UP instrument that Kamil said will track wages against an index that resets each day. “In the second semester, we plan to introduce a calendar of treasury notes linked to wages and the price will be market determined,” he said.
Uruguay previously issued a local bond tied to wages but sold it only to local insurance companies. Kamil said the index did not accurately track wages because it only adjusted once a month.
“It was denominated in another account linked to wages created 30 years ago,” he said. “If you want to develop a market, you need an index that resets every day. The UP was developed with these characteristics.”
According to a report from Wilmington Risk & Compliance published on April 16, Uruguay’s lack of financial assets adjusted for salaries and its mismatch of assets versus liabilities led private insurers to leave the country’s pension market. The state-owned Banco de Seguros del Estado (BSE) is the sole insurance company that provides annuities, but Kamil said it did so at a loss.
The UP aims to give insurers a means to hedge risk and develop a market by encouraging private sector companies to return to a tradeable asset class. Uruguay’s current pension system includes a public pay-as-you-go initiative and private individual savings accounts.
Fragmentation
Kamil warns, however, that adding another debt instrument runs the risk of fragmenting the local capital markets. The federal government has printed nominal fixed-rate peso bonds, inflation-indexed CPI notes and built a yield curve in the cross-border bond market. By adding a new wage-indexed feature, it could saturate the market, Kamil said.
“We think the risk of not doing it is bigger, however,” he said. “We want to calibrate it carefully so we do not cannibalize the other two [domestic] markets.”
To meet the roughly $1.1 billion in external debt needs for 2018, Kamil said Uruguay will issue local currency inflation-indexed notes and the new UP securities. LF