OREANDA-NEWS. Fitch Ratings says in its latest bi-annual global Sovereign Review and Outlook report that sovereign downgrades have outnumbered upgrades by over four to one so far this year and the balance of Outlooks is Negative. Emerging market (EM) sovereigns are facing downward pressures from lower commodity prices, geopolitical risks, Fed interest rate increases and structural growth challenges.

The sharp drop in oil prices to below USD60/b currently from USD115/b in mid-June 2014 has led Fitch to downgrade four major oil exporters since 4Q14, making the shock the most important current sovereign rating driver. We forecast Brent oil prices to rise to an average of USD65/b in 2015 and USD80/b in 2017. But if oil prices fail to recover, more negative actions are likely. Countries most at risk would be those with high fiscal breakeven oil prices and limited buffers and those that fail to adjust policy adequately to lower fiscal and external receipts.

The sharp rise in eurozone sovereign bond yields, which has seen yields on 10-year Bunds rise to 0.8% currently from 0.1% in April, is credit-positive insofar as it reflects lower deflation risk, and rising inflation and growth expectations. However, the speed of the correction also reflected market liquidity conditions and may be a harbinger of global market volatility ahead, particularly as we see a growing divergence between monetary policy of the Fed and the ECB/Bank of Japan.

Forthcoming Fed interest rate increases will exacerbate the macroeconomic and external financing pressures on EM countries and the risk of further negative rating actions. However, Fitch is not expecting a systemic EM crisis. Fed tightening has been well signposted, will be gradual and only to a low level by historical standards. The most vulnerable countries are those with large current account deficits and maturing external debts, low foreign reserve buffers, high or foreign currency-denominated debt burdens, fragile macroeconomic policy frameworks or weaker fundamentals.

Geopolitical risks are prominent and have contributed to three downgrades so far in 2015. Deterioration in relations between Russia and the West is a major shift in the political landscape. Sanctions on Russia and lower oil prices have led to recession, declining foreign exchange reserves, financial volatility and a rating downgrade. Fitch downgraded Ukraine to 'CC' in February 2015 ahead of sovereign debt restructuring talks starting in July. Other countries with high dependence on exports to and workers' remittances from Russia, such as Armenia, have been adversely affected. Political instability could worsen in the Middle East.

A Greek exit from the eurozone is a material risk despite recent progress made towards the agreement of a third bailout programme. Assuming a final programme is agreed, implementation risk over the coming months will be very high. 'Grexit' would likely trigger some financial market volatility but we do not believe it would lead to a systemic crisis or another country's rapid exit.

Fitch believes long-term growth potential has declined in both EM and developed countries, which will add to negative pressures on ratings. This reflects lacklustre recovery and weak productivity growth in developed markets since the global financial crisis; persistent downward revisions to EM growth projections in recent years under the weight of structural constraints and diminishing gains to GDP from credit growth; subdued world trade growth; demographic profiles in major economies; and other indicators such as low inflation, commodity prices and real interest rates.

The majority of sovereign ratings are on a Stable Outlook, as is typically the case. However, Negative Outlooks outnumber Positive Outlooks by 12 to eight, signalling that sovereign creditworthiness is deteriorating and some net downgrades are likely in 2H15 and 2016. The first half of 2015 witnessed nine foreign-currency Issuer Default Rating downgrades, outnumbering the two upgrades by a factor of more than four to one, as well as a net negative change in rating Outlooks.

Ten of the Negative Outlooks are on EM countries, signalling that they are under the greatest downward pressure, while for developed countries Positive Outlooks outweigh Negatives. EM sovereigns are facing a less favourable external financing environment, with lower commodity prices and the Fed forecast to raise rates in 2H15. In addition, structural growth challenges are evident in many EMs. For developed countries, persistent budget deficits, rising government debt and subdued growth are the main downside risks.