CEE 2006 - EU accession bond supply remains the exception
International bond issuance from second-wave EU accession countries remains negligible, in stark contrast to corporate and especially bank issuers from Russia and Kazakhstan. Indeed there looks to be no end to Eurobond supply out of these two countries, while Ukraine promises to join the throng once the political outlook is clarified. John Weavers reports.
Aside from the usual bumper sovereign issuance from Turkey, EU candidate governments have been notable for their absence from the Eurobond market again this year. In Bulgaria, a tight fiscal policy has put the emphasis on debt retirement, while Croatia has made it clear that domestic markets will satisfy its financing needs for the foreseeable future.
Romania remains a potential issuer: some officials have mentioned a desire to launch a €500m to €1bn 15-year Eurobond, but there have been so many changes in the finance ministry that a coherent strategy has not been forthcoming and origination bankers doubt that supply is on the cards this year.
Last year did see two well received Bulgarian bank issues. United Bulgarian Bank (UBB) printed a €100m three-year issue and First Investment Bank (FIB) sold a €200m three-year. This year has so far only seen Kremikovtzi's €300m seven year non-call five which offered a whopping 12% coupon.
There were two larger Romanian issues in 2005: the Banca Comerciala Romana (BCR) €500m three-year and a €500m 10-year from the City of Bucharest that both benefited from scarcity value. But for most, there is simply no need to go to the international bond market in view of the liquidity available in the syndicated loan market.
Central European banks and corporates have long had cheap access to the loan market and it makes little sense for them to undertake the time consuming and expensive process of acquiring ratings and going through due diligence when funding can be secured more cheaply in the bilateral or syndicated loan markets.
Another factor behind the lack of supply is the relatively small size of Central European companies, while many of the larger ones have attracted foreign participation since privatisation and are able to secure cheaper funding from foreign parents, including Bulgaria's largest bank, DSK, which is owned by UniCredit.
Although issuance does still take place sporadically, the justification is rarely for funding purposes alone. Credits may seek to extend duration to ride out any potential domestic market wobbles, while an international bond serves to increase the firm's profile, perhaps with an eye to a foreign suitor.
CIS banks, on the other hand, have less developed domestic loan markets and need Eurobond financing to fund their explosive growth.
In Turkey, the use of syndicated loans is even more widespread thanks to the large group of local banks that can fund corporates at very low rates. Top-tier one-year loans are being priced around 30bp over Libor and 60bp for three-year paper. Even though Turkish Eurobond spreads have tightened markedly, they are still much higher than the differential for syndicated loans.
The main justification for Turkish credits to tap the Eurobond market is for extended duration, but further out along the curve it is cheaper for Turkish firms to securitise future flows than it is to sell straight bonds. However, the door to non-sovereign Turkish Eurobond issuance may finally be opening after Finansbank quietly placed the first two plain vanilla bonds from the country since June 2004 in April. This was also the first Eurobond issued by a local bank. The US$110m five-year and US$110m seven-year offerings were priced at par with 6.25% and 6.50% coupons respectively.
EU entry will make no difference to international bond supply from the corporate sector if the "class of 2004" is any guide, as syndicated loans have remained the funding instrument of choice for those companies.
Kazakh banks continue to play a central role in the EEMEA pipeline with ATF Bank launching the 12th Eurobond from the sector in late April while state-owned KTZ became the country's first corporate issuer as supply looks set to exceed 2005's US$2.65bn issuance from 13 issues by nine banks by the summer.
On the back of strong GDP growth and likely ratings upgrades, Dresdner KW forecasts total returns in the Kazakh banking sector of 10.7% this year, up from 2005's 8.7%, with a further 80bp in average sector spread tightening following last year's 93bp narrowing.
The bank views the Kazakh banking system to be the most efficient in the CIS. The majority of banks are privately owned, profitable and adequately capitalised. In particular Dresdner argues that Kazakh banks are attractive against their Russian counterparts with a duration-adjusted difference between the sectors' spreads averaging 40bp at end 2005 in favour of Russian banks, despite being rated equally by S&P and Fitch.
"The fundamentals (liquidity, related party exposure) and degree of economic intermediation of Kazakh banks are stronger than Russian banks and the former are subject to a more stringent and efficient regulation," the bank's research stated.
A London-based emerging markets syndication manager stressed the difficulties in comparing the two sectors given that there are only around 30 Kazakh banks versus over 1,000 in Russia. Furthermore, the Russian sector is dominated by state-owned giants and private banks including Alfa Bank, Gazprombank and Petrocommerce Bank that all have a large industrial parent whereas Kazakh banks are mostly private, stand-alone businesses.
Lower Russian yields partly reflect Kazakh banking's smaller investor base with limited local participation. On the other hand, increasingly important Asian retail demand is greater for Kazakh banks thanks to the country's close proximity and energy connections.
Kazkommertsbank (KKB), Halyk Bank and BTA, dominate the Kazakh sector, holding over 60% of total assets. Their spreads, along with state-owned DBK, have become extremely tight, prompting growing interest in banks further down the credit curve as well as longer-term senior and subordinated issues.
"Everything is fine as long as growth remains strong and liquidity is ample. But if, for whatever reason, a slow-down triggers a liquidity crunch, the Big 3 are quite capable of squeezing the others out and small banks could suffer as non performing loans increase," said an emerging market fund manager. In addition, the Big 3 enjoy an implicit state guarantee since the government is unlikely to allow any of them to fail. "The pick up is not worth the risk," the manager concluded.
However, Commerzbank analyst Steve Cook believes such concerns are only materially relevant in the event of an economic downturn or crisis. "If you are in a bull market and like the underlying credit, then investors are bound to be attracted to the high yielding subordinated or hybrid Tier One debt of top tier banks that can offer a pick up of around 75bp for limited additional near term risk," he argued.
Ratings agencies famously disagree on how to differentiate between senior and Tier I Kazakh bank paper. Moody's generally employs a one-notch difference versus S&P's three notches.
Another alternative is to invest in the fledgling local market. Halyk Bank launched a US$100m equivalent two-year and US$100m equivalent three-year bond in mid-March that represented a rare opportunity to get tenge exposure.
While this year's Kazakhstan Eurobond pipeline was quickly up and running, Russian bank supply started at a more leisurely pace before a glut of offerings around Easter. Origination managers are divided over whether Russian bank supply will exceed 2005's total when 22 banks printed 41 deals totalling US$9.7bn, a huge increase from US3.29bn in 2004 and US$1.69bn in 2003 .
"Spreads are still contracting while the boom in Russian consumer lending continues to be funded in the capital market," said one. The three big issuers of 2005 – VTB, Sberbank and Russian Standard Bank – have all been back in the market this year. Sberbank established a hefty MTN programme that will be called upon through 2006. Other regular issuers, including Bank of Moscow, Alfa and MDM Bank, have printed new paper while several smaller banks are planning debuts.
Some single rated credits might prefer the less regulated credit-linked note (CLN) market where due diligence is lighter and ratings are not required. The problem here is that this market is closed to several important investors.
The Central Bank of Russia's cautious approach to subordinated debt has been cited as an obstacle to issuance. In contrast to the Kazakh authorities who have been eager to adopt European and global banking norms, Moscow has been reluctant to approve additional instruments/levels to international bonds with the 2004 mini-banking crisis fresh in the memory.
This was underlined last December when Russian Standard Bank delayed its US$200m 10-year, non-call five Lower Tier 2 subordinated Eurobond after the central bank recommended it alter the step-up on the call so the penalty would be 150bp rather than 150%.
Upper Tier Two or Tier One transactions are still off-limits despite repeated representations by local and Western banks. Approval looks far from imminent, with no indication given when even upper Tier II deals will be allowed.
"If this didn't prevent supply last year, why should it do so now?" a London-based EEMEA syndication manager argued. "It is not a choice between Upper Tier 2 or Tier I and no issuance. These banks are willing and very able to raise funds from the international bond market to meet their expanding financing needs," he added.