Sri Lanka in for ‘Default’ by Fitch and S&P after downgrades last week

• Fitch says local debt issued in both LKR and Fx not affected as uninterrupted debt servicing is assumed 
• But S&P lowers local currency rating and cautioned of further downgrade upon indications of nonpayment or restructuring of rupee-denominated obligations

Sri Lanka’s sovereign rating could be in for ‘Default’ by Fitch and S&P Global Ratings as its first coupon payment in respect of the foreign currency debt comes due today (18th) since the government announced last week that it was going to a technical default on its foreign currency debt obligations until a restructure programme is put in place in the next few months.  Fitch Ratings on April 13 downgraded Sri Lanka’s Long-Term Foreign-Currency Issuer Default Rating (LT FC IDR), its equivalent of the sovereign to ‘C’ from ‘CC’, a day after the Finance Ministry announced it would suspend foreign currency obligations except for a few categories such as swaps and development bonds until creditors are engaged to hash out a deal to restructure remaining debt.  “The downgrade of Sri Lanka’s Long-Term Foreign- Currency IDR reflects Fitch’s view that a sovereign default process has begun,” Fitch stated. 

However, the rating agency said it would, “downgrade the LT FC IDR to ‘RD’ once a payment on an issuance is missed and the grace period has expired”.  RD stands for Restricted Default. 
Sri Lanka is due to settle a coupon payment today in respect of a sovereign bond it sold.  Meanwhile, the S&P followed up on the same day by downgrading the sovereign rating to ‘CC’ from ‘CCC’and revising the outlook to ‘Negative’. However, similar to Fitch they too added that they, “could lower the foreign currency rating to ‘SD’ (Selective Default) upon confirmation that the government has missed a coupon or principal payment on commercial foreign currency debt,

including its April 18 coupon payment on international sovereign bonds, or upon confirmation of debt restructuring terms”.  Typically, once a bond payment is missed, it triggers a month’s grace period for the issuer to still make good on the payment on the bond. 

However, with the communications coming from the government it is unlikely that Sri Lanka would honour its foreign currency debt until any deal is reached with the creditors for a mutually agreeable debt repayment schedule as the country and its people are going through a hard time for months due to the acute shortage of key commodities.  While the creditors are likely to take some form of a haircut on their bonds, Sri Lanka stressed that it is committed to settle all its foreign debt at a future date as the April 12 announcement is only a technical default.  

Meanwhile, Fitch did not change the rating on the country’s local currency debt as they said it, “understands from the announcement that locally issued government debt, whether in local or foreign currency, is not affected and assumes service on this will continue”. 

However, S&P lowered their long-term local currency sovereign rating to ‘CCC-’ from ‘CCC’ and cautioned that they could lower the local currency ratings if there are indications of nonpayment or restructuring of rupee-denominated obligations. 

The authorities made clear last week that the restructure wouldn’t apply to rupee debt or foreign currency debt such as Sri Lanka Development Bonds issued to local parties led by banks that remained apprehensive of a potential haircut they might have to take.