MS El Niño's Back

EM Sovereign Credit Strategy & Global Economics Morgan Stanley & Co. LLC Global Foundation

Chances of a very strong El Niño are rising. Risks are Mayank Phadke, CFA Economist concentrated in select EMs, with inflationary and fiscal pressures

likely to outweigh growth risks. We view El Niño as a key Morgan Stanley & Co. International plc+

sovereign credit risk, particularly for countries with weak fiscal Neville Z Mandimika Strategist buffers. We develop a framework to identify and assess these

different exposures. Morgan Stanley C.T.V.M. S.A.+

Thiago A. Machado, CFA Economist Key Takeaways

NOAA has confirmed El Niño conditions, now with an 81% probability of a very Morgan Stanley & Co. LLC strong episode that could rank among the largest events on record. Nicolas Eterovic Economist From an economic standpoint, El Niño is a real food-price risk, but unlike oil its

impact is likely to be more gradual, more concentrated, and more EM-specific. Morgan Stanley C.T.V.M. S.A.+ While it could delay disinflation at the margin, we do not expect it to prompt a Julia Lobato Barbosa broader central-bank rethink. Economist From a market standpoint, the uncertain magnitude and timing of El Niño's Ana Madeira impact make it hard to trade EM sovereign credit from a top-down perspective Economist and instead forces a country-specific approach. Fernando D Sedano We create El Niño risk buckets for EM sovereigns based on: 1) direct physical Chief LatAm Ex-Brazil Economist impact; 2) indirect macro impact; and 3) fiscal and financing capacity. Our Morgan Stanley India Company Private Limited+ framework flags 47% of the index as negatively exposed, with 11% in the highest- Priyan Mody risk bucket. Economist We see the greatest sovereign credit risks in LatAm and Africa. This reinforces Morgan Stanley & Co. International plc (DIFC Branch)+ our dislike stances on Peru and Costa Rica. It represents a key risk to our like Rajeev Sibal stance on Ecuador, but supports our like stance on Argentina. Senior Global Economist

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Exhibit 1: Lower-quality HY names Exhibit 2: Higher-quality sovereigns with negative exposure should see the with stronger buffers should be better greatest sovereign risks protected El Niño Sovereign Credit Risk Scores - B and below El Niño Sovereign Credit Risk Scores - IG and BB 1) direct 2) indirect 3) fiscal 1) direct 2) indirect 3) fiscal Country Score Country Score impact impact capacity impact impact capacity Ecuador 7 2 4 5 Colombia 7 4 6 6 -2: High -2: High Mozambique 8 7 6 7 Costa Rica 7 3 4 5 Risks Risks Zambia 7 6 5 6 Peru 6 4 4 5 AVERAGE: 7 5 5 5.9 AVERAGE: 6 4 5 5.1 Angola 8 7 4 6 Dominican Rep. 3 5 5 4 Egypt 0 6 6 3 -1: Guatemala 6 4 4 5 El Salvador 4 6 4 5 Moderate Morocco 3 6 4 4 -1: Ivory Coast 5 4 5 5 Risks Panama 5 5 5 5 Moderate Kenya 2 5 5 4 Turkey 1 5 5 3 Risks Nigeria 5 6 5 5 AVERAGE: 4 5 5 4.2 Senegal 4 6 7 5 Brazil 5 4 6 5 0: No Risks Venezuela South Africa 3 4 5 4 AVERAGE: 4 6 5 4.8 AVERAGE: 4 4 5 4.6 Ghana 5 5…