Fitch on Friday switched the outlook on Portugal's BB+ rating from "negative" to "positive", a month before the eurozone nation exits its international bailout, raising the prospect it may soon rejoin investment-grade ranks.
Fitch said the upgrade to the ratings outlook is justified by Lisbon's progress in repairing public finances as well as the overall recovery of the economy three years after its EU-IMF bailout.
"Portugal is making good progress in reducing its budget deficit," the ratings agency said in a statement.
The economy took a big step towards emerging from its debt bailout and regaining investor confidence late last month by beating its budget target by a wide margin.
Portugal, still struggling to overcome its debt crisis, to pull away from recession and overcome public anger at tough austerity measures, turned in a budget overshoot equivalent to 4.9 percent of output last year.
That marked a huge reduction from a public deficit of 6.4 percent in 2012.
But despite this marked progress in reducing the annual deficit, the gap between spending and revenues, the public debt of accumulated past deficits rose to 129.0 percent of output last year from 124.1 percent in 2012.
The debt now amounts to 213.63 billion euros ($297 billion), the statistics office INE said.
Fitch forecast the Portuguese economy to grow by 1.3 percent this year and 1.5 percent in 2015.
In the second half of last year, the economy pulled out of recession to show growth of 1.1 percent and this also helped public finances, since growth raises tax income and reduces some costs.
The recovery, ending two and a half years of recession, held in the fourth quarter when the economy grew by 0.6 percent on a quarterly basis. However unemployment is still at 15.3 percent.
Portugal is scheduled to exit next month its three-year 78-billion-euro EU-IMF bailout, under which it has been required to enact deep structural reforms to correct public finances and raise efficiency in the economy.
The country has returned to borrowing on the long-term debt markets and also benefitted from the general reduction in rates peripheral eurozone countries are paying to raise money.
- Precautionary credit line beneficial -
Lisbon has yet to decide whether or not to apply for a precautionary credit line from the EU's ESM rescue fund. In addition to the standby funds, the credit line would also open up the possibility for the ECB to step in to support Portugal in the bond markets.
"Despite the improved financing conditions, Fitch believes that securing a precautionary credit line would be beneficial in protecting against downside risks, although that is not the agency's expectation and not a key rating driver," said Fitch in a statement.
Fitch is the first of the three major ratings agency to raise the outlook on Portugal's rating. Moody's has had Portugal at steady since November while Standard & Poor's still has the country at negative.
An upgrade from the speculative or "junk" rating of BB+ would put Portuguese bonds back into investment-grade.
Berenberg Bank economist Christian Schulz noted that ratings agencies have been slower than the bond market to appreciate the improvement in the fortunes of peripheral eurozone countries that had been at the centre of the debt crisis.
"The slow response of the ratings agencies could still make Portugal’s bailout exit in May more difficult," said Schulz.
The sub-investment grade rating is a key reason Portugal still pays more to borrow than Italy and Spain, and complicates ECB support measures, he added.