Sunday, 20 January 2019

Rescue remedy

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The EFSF has shed its early reputation for rigidity in its funding strategy and has upsized its programme to raise €58bn this year. That aim has been helped by a measure of good fortune as Japan accelerated its overseas bond-buying programme, while its auctions have established a foundation for liquidity in the eurozone.

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The European Financial Stability Facility’s €8bn blowout deal on April 9, the biggest single offering by a supranational that brought its total issuance for the year to €25bn, showed that luck and not just timing is important in the bond markets.

The five-year deal remained part-guaranteed by bailed-out Cyprus, which will step out following a meeting on April 25, but given that the country is only accountable for €1.5bn of guarantee commitments, compared with €211bn for Germany, its involvement did not lead to any investor resistance as the order book bulged to €14bn.

The stated desire of the AA+/Aa1/AAA-rated euro rescue fund, which is backed by guarantees given by the 17 euro-area member states up to €780bn, to be as transparent as possible to investors and this enshrined its policy of publishing its issuance windows in advance. So the fact that a third of the demand for the five-year deal was snapped up by Asian investors just days after the Japanese government announced plans to accelerate its overseas bond-buying programme was an unexpected boost. Japan’s largesse was not a complete surprise though. In January, Japan’s finance Minister Taro Aso said it would purchase bonds issued by European Stability Mechanism to foster stability in the eurozone.

The EFSF’s transparency-first approach has not always delivered such good fortune. In February, the fund printed a €3bn three-year trade that struggled to gain momentum in the week after the deadlock in the Italian elections. 

But that deal was important for the EFSF because it proved it had market access during challenging times. Christophe Frankel, CFO of EFSF, said: ”We have proved our ability to find our investor base in volatile conditions across the curve, be it three years, five years or 25 years as well as six months with our bills programme.”

Financing destiny

While the fund may not be the master of its own financing destiny, its latest transactions show it is adding more strings to its funding bow. Jamie Stirling, co-head of debt capital markets for SSAs at BNP Paribas, one of the lead bookrunners on the €8bn deal, said: “This deal underlines the entity’s flexibility in responding to investor demand by printing such a large trade so early into the second quarter – it has already covered half of the €16.5bn it has targeted for the whole of the second quarter.”

Despite attracting €4bn in orders, the EFSF decided not to print a bigger ticket in February, even though that left it €500m shy of its €16.5bn first-quarter funding target. Compared with the fund’s earlier, and heavily oversubscribed €6bn seven-year and €5bn five-year benchmark bonds, this was seen in some quarters as a poor result. But while some expected it to roll the amount over into the second quarter, the fund returned on March 20 and raised an extra €1bn via a syndicated tap, thus beating its funding target for the first three months of the year.

The facility has shed its early reputation for rigidity at the nadir of the eurozone crisis when investors were unclear about the prospects for and implications of a sovereign default. Initially the EFSF used a simple back-to-back funding strategy. In November 2011, a diversified funding strategy was adopted using a liquidity buffer as a key component. As part of this strategy, the EFSF introduced a short-term bill programme and since the end of 2012 the fund has held regular auctions of three-month and six-month bills, all of which have met with strong demand. And with its funding programme upsized to €58bn in 2013, from €45bn in 2012 it is an established borrower favouring deals of size, albeit not of same scale as EIB or KfW.

Comfort and criticism

Lee Cumbes, head of frequent borrower origination at Barclays said: “The EFSF has come of age as a borrower. The bill programme was an important step in establishing a foundation of liquidity and the overall backdrop has also changed for the better since last summer, giving investors greater comfort.”

The establishment of an auction programme has drawn criticism from some banks that are being asked to take on unprofitable business. “There are a few negative noises about who gets awarded places on the syndicates,” said one banker.

“The EFSF auctions provide further evidence of the fund’s more flexible approach to borrowing, but some are not convinced of the benefits, it does give them the ability to raise smaller amounts quickly but there is still a clear gap between the supra/agency and EGB markets,” said Stuart McGregor, head of debt capital markets for SSAs at Royal Bank of Canada.

Frankel said: “The adoption of the auction approach was another part of our diversification strategy aimed at giving us access to market in a simple and quick manner. It also gave us the opportunity to reach a larger range of banks so they could fulfil their own needs. The auction process enables them to submit orders in exact proportion to their own interests.” He also said the fund’s main access to the investor base “will continue to be through the syndicated route”.

In January, the European Stability Mehcanism replaced the EFSF’s bill programme and market participants expect the permanent fund to come with its first benchmark issue when the EFSF is liquidated in July, although the EFSF will remain an active issuer, continuing to provide funding for Ireland, Portugal and Greece.

Currency evolution

“There are still some disbursements to be made over the next two years for Portugal and Greece. There are new loans to be made. Also the loans have been for 20 to 25 years but they have been funded by bonds with shorter maturities so there will be a need for the EFSF to roll these over and remain an active issuer,” said Frankel.

While the EFSF endured a rapid inception as a Luxembourg-listed private company, Frankel hopes its successor will not suffer any teething problems as it will be more easily recognisable as a supranational entity from the outset.

Market participants hope the next step in the evolution of EFSF will be a foray into new currencies, with some predicting a dollar debut, but for the moment Frankel rules out that level of flexibility.

“Both the EFSF and the ESM are able to issue in other currencies but for the moment they will probably both stick to the euro for their borrowing requirements.”

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