S&P places Sri Lanka under ‘Selective Default’ as country missed coupon payments

• Rating agency stands ready to cut local currency rating should the rupee bonds become part of restructuring 
• Says path to debt restructuring going to be a long drawn out process 
• Points out any rescue package with reform programme could become difficult with prolonged political instability

S&P Global Ratings slashed Sri Lanka’s sovereign rating on Monday to the category of ‘SD’ or Selective Default as the country missed the first coupon payments due on April 18 on US$ 1.25 billion worth of sovereign bonds maturing in 2023 and 2028. 

At the same time, S&P lowered its issue ratings on the two bonds to ‘D’ (default) from ‘CC’.    

Monday’s action was anticipated as Sri Lanka showed no willingness to meet any payment in respect of most of its foreign currency denominated debt since it announced that it would suspend all such payments effective from April 12 to conserve dollars to pay for essential imports. 

Soon after that announcement, all credit rating agencies slashed Sri Lanka’s sovereign credit rating with S&P lowering its rating to ‘CC’ from ‘CCC’, with the outlook on ‘Negative’. 

But, the SD under S&P’s rating scale does not carry an outlook as, “they express a condition and not a forward-looking opinion of default probability,” S&P said. 

Although typically a default of coupon payments trigger a grace period of 30 days to make good on the payment, the rating agency said they do not expect the government to make the coupon payments within the 30 calendar days. 

Conversely, Fitch Ratings would wait till the grace period is expired to effectively put the country into the ‘RD’ or Restricted Default category. 

Meanwhile, S&P affirmed its ‘CCC -‘ rating on local currency sovereigns with a ‘Negative’ outlook to reflect the risk of such instruments consisting of rupee bills and bonds could get restructured in response to country’s worsening economic, external and fiscal pressures. 

However, the Central Bank maintains that neither Sri Lanka Development Bonds nor rupee denominated treasuries would be subject to the restructuring announced on April 12. 

However, it remains to be seen if and how that could change should the other creditors insist that as a sticking point as part of an overall deal.  

“We could lower the local currency ratings if there are indications of nonpayment or restructuring of Sri Lankan rupee-denominated obligations”, S&P said. 

Acuity Stockbrokers, a Colombo-based stockbroking house on Monday however said this is still a highly unlikely scenario given the negative consequences that could befall on the local banking and financial sector. 
However, this option cannot be completely ruled out as Sri Lanka has lost all its bargaining chips in negotiating debt restructuring with foreign creditors. 

Although a new avenue opened up on Monday with the Chinese envoy in Sri Lanka announcing that Sri Lanka was negotiating a US$ 2.5 billion financing package prior to it going to the International Monetary Fund (IMF), it remains to be seen how Sri Lanka would continue these negotiations to its advantage while talking to the IMF, which China doesn’t like. 

Sri Lanka has horrible negotiators and diplomats with the exception of Milinda Moragoda, Sri Lanka’s envoy to India, who successfully brokered back-to-back rescue packages from India to keep the Sri Lankan economy barely above the waters. 

Meanwhile, S&P expressed its doubts if any debt restructuring could happen expeditiously and said the road ahead for any rescue package from the IMF remains murky due to the prolonged political standoff which is making things complicated. 

“Sri Lanka’s debt restructuring process is likely to be complicated and may take an extended period of time to complete”, they said. 

“Negotiations with the IMF to establish a reform and funding programme are in the early stages”, they added. 
“The country has also experienced considerable political uncertainty in recent weeks and it remains unclear if the current government can retain a majority in parliament. Failure to establish a sustainable government could further complicate and hinder progress in the discussions with the IMF. This could ultimately delay a comprehensive reform programme,” they further said.