Sri Lanka’s top equity research arm with a large foreign client base on Friday predicted around a 35-40% principal haircut on International Sovereign Bonds (ISB) investments under the planned Debt Restructure process  in Sri Lanka.

Sri Lanka’s top three private commercial Banks (PCBs) had a significant US dollar exposure on Sri Lanka’s International Sovereign Bonds (ISB) and Sri Lanka Development Bonds (SLDBs) as at 31 December 2021, CT CLSA Securities (Pvt) Ltd, stated in its latest research note.

Sri Lanka’s eight State and private banks have so far invested 1.5 billion dollars in ISBs. All these investments have been made with the aim of obtaining high capital gains based on the recent secondary market discount pricing scenarios.

 “Whilst top three private commercial Banks namely Commercial Bank of Ceylon (COMB), Hatton National Bank (HNB) and Sampath Bank (SAMP) provided 20%, 17% and 20% of their respective Sovereign Bond portfolios as at 30 June 2022, we assume a base case scenario of a 40% principal haircut on  ISBs where COMB, HNB and SAMP may have to provide a further 20%, 23% and 20% respectively on ISBs in the near to medium term” it added.

According to CT CLSA Securities , the Government paid around 35% of SLDBs which were overdue as at 31 Dec 2021, with 57% of payments (out of the total payments in 2022 YTD) paid in US$ terms and 43% of payments done in LKR or Sri Lanka rupee terms to LCBs.

“Further ~12% (of SLDBs which were overdue as at 31 Dec 2021) to be received by LCBs during the next couple of weeks as per reliable sources” it further added.

 Banks have already provided 20% on their respective SLDB remaining exposures where CT CLSA Securities believe a further 20% impairment would be required based on the finally agreed debt restructure assessments (assumed at 40%).

COMB, HNB and SAMP are estimated to provide Rs5 billion/Qtr, Rs6billion/ Qtr and a Rs24billion / Qtr respectively during 2023E through 1H2025E.

“Although these Banks may consume into the capital conservations buffers (CCB) in the near term in an anticipated extreme NPA scenario during 2H2022, under our base case of a 40% hair cut for ISBs and SLDBs, we do not expect COMB, HNB and SAMP to utilize beyond their available CCBs in the near to medium term,” it added.

Given the current economic conditions, CT CLSA Securities expect SAMP, HNB and COMB to re-rate (notwithstanding the near-term challenges) following the confirmation of the debt restructure details (assuming a no LKR denominated debt / bond principal haircut scenario) during the next 12 months period.

Sri Lanka decided to suspend the foreign debt servicing on April 12 this year. Since then, SLDBs around one billion rupees matured on May 27 and August 1, the spokesman said.

In the meantime, it is also reported that some SLDB holders have refused to receive their maturing investments in rupees. The CBSL has given them an opportunity to reinvest them only in Treasury Bonds.

It is also stated that the Sri Lankan Government will make every possible effort to exclude Sri Lanka from the domestic debt restructuring process. It is also reported that the Lazard group, which acts as financial advisors regarding the debt restructuring process in Sri Lanka, has been given the necessary advice in this regard, the spokesman said.

The visiting International Monetary Fund (IMF) team is scheduled to finish its local task tomorrow (31).It also states that it will finalise Sri Lanka’s debt sustainability report. Based on its progress, the Government expects to reach a staff-level agreement with the IMF.

 Governor of the Central Bank of Sri Lanka, recently expressed confidence that once a Staff-Level Agreement is reached with the IMF  by the end of the month, it would enable a clearer picture of debt sustainability and debt targets for Sri Lanka to achieve in the next 10 years. He added that once Sri Lanka unveils a macro-economic programme in the medium to long-term, along with structural reforms, endorsed by the IMF, this would ensure significant credibility and encourage creditors to support Sri Lanka in its efforts to ensure debt-sustainability.