Over the past fifteen years, and notably since the onset of the COVID-19 pandemic, there has been a prolonged period of low United States dollar (USD) interest rates, which has spurred business investment activity, which lead to inflation and a general mismatched market.
High inflation happening in the US and Europe due to economicuncertainties and complex geopolitical landscape in recent years have pushed a spike in interest rates across markets. Since March 2022, the Federal Reserve (FED) has raised interest ratesto 5.25%-5.5% as an effort to tame the situation. This spike in rates led toan increase in the cost of borrowing for households and businesses to hopefully bring inflation down to a targeted number of 2%. This have triggered certain impacts on their own economy and others around the world, including Vietnam.
Early in July 2024, the FED stated that keeping high interest rates too long could jeopardize economic growth and they are considering an interest rate cut without waiting for the inflation rateto fall to their own targeted number. This article explores how a high USD interest rate environment has been affecting Vietnam’s economic performance, particularly in terms of Foreign Direct Investments (FDIs) and Mergers & Acquisitions (M&A) activities.
Clear negative impact on capital inflows but the country demonstrated a strong level of resilience
High USD interest rates have made dollar-denominated assets more attractive to investors. This has sucked capital inflow away from Vietnam, where most assets are VND-denominated with substantial market and country risks, impacting FDI. Elevated USD interest rates have also diminished private consumption in the US, consequently exerting a significant negative impact on Vietnamese exports.
Albeit all these negative impacts, Vietnam’s recent economic performance demonstrated a strong level of resilience. The country saw a strong rebound in 2023, attracting the third-highest FDI inflow in 15 years, after a dip in FDI in 2022, thanks to relentless government effort in attracting FDI and an observation of political stability, consistent economic growth, active participation in free trade agreements, and competitive costs. Given these short-term impacts, Vietnam is still expected to remain an attractive investment destination in the long run.
It is worth noting that while USD interest rates are rising and at their peak, Vietnam dong (VND) interest rates are going in a reverse direction, which went from below 3% in 2021 to near 5% in 2022, before dropping again to around 3% in 2023 and early 2024.
FDI FLOWS INTO VIETNAM AND THE DIFFERENCE BETWEEN US AND VIETNAM’S POLICY RATES*
Source: MPI, FRED, and SBV.
* 1 and 2 are policy rates, used as monetary policy tool to influence economy, control inflation, and stabilize national currency.
M&A Activities have slowed down waiting for a lowered and stable USD interest rates
Rising USD interest rates increase the cost of financing and capital for foreign investors, which has slowdown M&A activities. Businesses facing higher cost of financing and cost of capital when acquiring companies would be more cautious with stricter due diligence and structuring requirements to ensure deals can offer adequate returns on investment.
Higher interest rates also require adjustments to assumptions in valuation models that are typically used in M&A transactions such as Discounted Cashflow. These models rely significantly on discount rates, which are influenced by borrowing costs and interest rates. Changes in capital flows and borrowing costs can affect company valuations. Higher capital costs lower the present value of future cash flows, potentially leading to lower valuations for target companies. In other words, as rates rise, valuations based on cash flow projections would decline.
Buyers and sellers are finding themselves facing a considerable gap in pricing. Deal structures have to lean more toward mitigating risks with more sophisticated formations of different instruments or methods such as deferred payments, earn-outs (payments contingent on future performance), and conservative post-closing adjustments. These measures help to bridge valuation gaps and manage uncertainties, however, also dampen M&A activities.
In addition, businesses with higher borrowing costs and interest rates are more leveraged with more risks. The uncertainties of when USD interest rates would drop and when VND interest rates would increase have also been a circumstance for the slowdown of the entire market.
Vietnam remains robust and more sophisticated M&A deals are emerging to maintain momentum
While the FED’s prolonged high interest rate position poses clear impacts and challenges, Vietnam’s economic fundamental appear robust. The country’s economic performance remains strong and FDI is seen to continue to flow in.
M&A activities are seeing adjustments due to higher and uncertain costs of finance and capital, but more sophisticated deal structures could emerge to maintain momentum. With a young population and growing workforce, an expanding domestic market, and a committed government to foreign investment, Vietnam still presents a wealth of opportunities for those who can navigate the short-term drawbacks and challenges.
Authors
This article is written by Nam Vu and Nghi Truong (the “authors”), and has been peer reviewed. It is part of our Views and Analysis series, where colleagues from various disciplines, functions, and levels share their expertise, studies, observations, analysis, and views relevant to our work and clients.
Sources
The information, data and figures are from the State Bank of Vietnam, Ministry of Planning and Investment, and Federal Reserve Economic Data and the author’s analysis.
Disclaimers
The above article represents the views of its authors and is for informational purposes only. It is not intended to serve as advice or recommendation, nor to address the circumstances of any entity, individual, or matter. No one should rely on and/or act upon the information presented without obtaining appropriate professional advice from ASART.
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Where the article contains statements, estimates, and projections regarding the anticipated future performance of Vietnam, markets, companies, and related figures, such statements, estimates, and projections may or may not prove to be accurate. No representation or guarantee is made regarding the accuracy and completeness of the content presented.
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