Oil Surge Clouds Travel Outlook, Sending Caribbean Bonds Lower

Tourists at Bahia de las Aguilas beach in Cabo Rojo, Pedernales Province, Dominican Republic. Photo by Marco Bello /Photographer: Marco Bello/Bloomb

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(Bloomberg) — A surge in oil prices triggered by the war in Iran is rippling through sovereign debt markets in Central America and the Caribbean, where economies that depend heavily on tourism are particularly vulnerable to higher fuel costs.

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Dollar bonds issued by countries including Barbados, El Salvador and the Dominican Republic have posted losses of more than 2.5% since the US and Israel launched joint air strikes on Iran in late February, compared to average declines of 1.8% in Latin America.

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For many countries in the region, tourism fills government coffers and drives economic growth, contributing over 22% to the Caribbean’s gross domestic product. While the full economic impact of higher oil prices remains unknown, rising jet fuel costs could push up ticket prices and weigh on travel demand. Bond traders are already factoring in weaker tourism flows as they evaluate the potential spillover effects.

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At the same time, many economies across the Caribbean and Central America import most of the oil they consume, meaning higher prices can quickly widen trade deficits and pressure government finances. 

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“No doubt it’s a net negative for Caribbean credits,” said Christopher Mejia, an emerging-market sovereign analyst at T Rowe Price.

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The selloff has been relatively modest so far, reflecting improvements in fiscal balances and external accounts across much of the region in recent years. Countries including the Bahamas, Dominican Republic and Costa Rica have been moving toward credit-rating upgrades.

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Still, investors say the outlook could deteriorate quickly if oil prices remain above $100 a barrel for a prolonged period.

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Brent crude topped that level last Thursday and was trading at $103 on Monday. The surge in oil prices has roiled global markets, putting a dent on what had been an all-out rally in developing-nation assets as traders reassess interest-rate bets and inflation outlooks.

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With little domestic energy production, oil-importing economies across the Caribbean and Central America are particularly exposed if the Middle East conflict drags on, said Fernando Losada, an economist at Oppenheimer & Co in New York.

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Jamaica appears the most vulnerable, with an oil trade deficit equal to nearly 7% of gross domestic product, followed by Barbados, El Salvador and the Bahamas at more than 4.5%, according to data compiled by Oppenheimer.

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A key question for investors is whether governments respond with fuel subsidies that protect consumers but strain public finances. Panama’s President José Raúl Mulino has ruled out reinstating fuel subsidies, while the Bahamas Prime Minister Philip Davis said the government doesn’t plan to hike electricity prices in the short or medium term and “safeguards are in place” to cushion consumers during periods of volatility. 

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“Oil at $100 for a protracted period is definitely a serious negative terms-of-trade shock for CAC oil importers,” Losada said. “Some will implement subsidies, some will not. That’s where the fiscal impact shows up.”

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