`On 20 October we assigned a rating of ‘B’ to Barbados’s US dollar-denominated global bonds maturing on 1 October 2029. The issue includes provisions for payments to bondholders to be deferred for up to two years in the event of a pre-defined natural disaster. This is intended to adjust the profile of the repayment burden on the issuer, and not to transfer the risk of the disaster event to bondholders. This contrasts with natural catastrophe (Cat) bonds where bondholders are not repaid if a qualified catastrophe event occurs” said Fitch
London/Madrid:
Fitch Ratings has assigned for the first time a rating to a sovereign bond with a natural disaster clause, rating the foreign-currency issue by Barbados in line with the sovereign Issuer Default Rating (IDR).
Fitch will not necessarily always rate future natural disaster clause bonds, as the agency would assess these on a case-by-case basis, reflecting on the characteristics of the bond.
“On 20 October we assigned a rating of ‘B’ to Barbados’s US dollar-denominated global bonds maturing on 1 October 2029. The issue includes provisions for payments to bondholders to be deferred for up to two years in the event of a pre-defined natural disaster. This is intended to adjust the profile of the repayment burden on the issuer, and not to transfer the risk of the disaster event to bondholders. This contrasts with natural catastrophe (Cat) bonds where bondholders are not repaid if a qualified catastrophe event occurs.”
Equalising the bond ratings with the sovereign Long-Term Foreign-Currency IDR signals that Fitch would not treat payment deferrals as a default event if they were in line with the bond terms. Specifically, the bond documentation sets out measurable deferral events (including earthquakes, tropical cyclones and excess rainfall) with reference to the definitions set out by Caribbean Catastrophe Risk Insurance Facility (CCRIF), which is also responsible for confirming whether an event has occurred.
And while two-year deferrals can be triggered up to three times, this cannot happen after 1 October 2027, to ensure that the final maturity is not extended. The deferred amounts are capitalised to prevent losses for bondholders. This protects bondholders’ economic interests, in Fitch’s view.
Moreover, a majority of bondholders can prevent deferral by exercising veto rights. Fitch would treat deferral events that occurred against the wishes of a majority of investors as a default.
Overall, we view the ability to defer payments in certain circumstances within a fixed maturity as equivalent to making a change to the repayment schedule, making the bonds more resilient to the effects of natural disasters. This may support the ability of low-rated sovereigns to recover from natural disasters and give them flexibility to improve their payment capacity.
Issuance of natural disaster clause bonds is widely predicted to increase in response to the rising number of extreme weather events being caused by climate change. In 2015, Grenada was the first country to include such clauses, in its US dollar sovereign bonds due in 2030. The International Capital Market Association (ICMA), together with the IMF, lawyers and other interested parties, are developing a framework for debt-reprofiling features, which could be triggered by natural disasters.
Fitch’s ability to rate future bond issues with natural disaster clauses will depend on their specific provisions. We would not expect to rate such bonds from highly rated issuers.