Sunday, 16 December 2018

Tap dance

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The need for yield, Basel III requirements and attention from rating agencies all add to the challenges public sector issuers will have to face.


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The outlook for SSA funding for the rest of the year is challenging. Barclays, for example, predicted €147bn issuance for the first quarter of 2013. In the end it turned out to be €123bn. Indeed, of the supra and agency issuers with the 10 largest funding programmes in Europe, only Norway’s Kommunalbanken (KBN) and Bank Nederlandse Gemeenten (BNG) issued a larger share of their funding programme this year than they had done at this point last year.

The challenge for public sector issuers this year will be how to sail a course between the challenges of a need for yield, attention from the ratings agencies and the impact of Basel III capital requirements on their counterparties.

“The dollar is currently the go-to currency for three to five-year bulk funding, while the euro has been the traditional place for 10 to 15 years. It has to be said, recently the euro market has diminished for anything longer than 10 years,” said Bill Northfield, head of SSA origination at Deutsche Bank.

So far this year there has been shift away from three-year dollar funding to five year though there are, of course exceptions – in February for example, Nordic Investment Bank sold a US$2bn 0.5% three-year. The US$1.75bn five-year note from Rentenbank at the end of March was typical of what has been seen for the Triple A rated development agency for agribusiness in Germany. It priced at mid-swaps plus 10bp, the tight end of initial guidance of 10bp–12bp, equivalent to Treasuries plus 30.65bp to yield 1%.

Ratings issues

But ratings agency issues have impacted the cost of funding. The ratings of nearly all agencies have been placed on negative outlooks by at least one of the raters. Triple A rated Dutch agencies BNG and Nederlandse Waterschapsbank (NWB) were both placed on CreditWatch negative by S&P in mid-November, though affirmed as Triple A in February. They have come through it. In mid-March BNG sold a US$1.75bn five-year 144A/Reg S deal at 1.375% while a week later NWB got away a US$1bn three-year at a pretty aggressive MS plus 25bp; a 0.75% coupon.

It has been a different story for French agencies. They followed the downgrade of the sovereign to Aa1 by Moody’s in November and are having to pay a pick-up. Sagess, which manages France’s oil reserves, sold a €600m 2.625% 12-year in February, but it came at a 23bp premium to the French government, and, at the end of March, Unedic, the French unemployment insurance agency agency, sold a €1.5bn April 2023 at 2.25% – an 18bp pick-up to the government. It is also telling to see who the buyers are. For both deals the majority of the paper went to French investors.

A lack of duration is also evident. In mid-February, the European Financial Stability Facility tapped its April 2037 for €1bn. But had to pay up for it. The issuance spread at reoffer was fixed at MS plus 45bp, implying a reoffer yield of 2.959%. Decent duration has been managed by the European Investment Bank, but only in a small size for durations above 10 years. It sold a €850m March 2040 at 2.75% (see “Rescue remedy” for more on EFSF).

The focus, unsurprisingly, has been on US dollars and euros. Between them, the EIB and the EFSF alone issued €30.5bn total equivalent debt in Q1, according to Barclays. But other currencies have not been ignored completely. There has been little SSA issuance in sterling this year other than EIB’s £1bn five-year issue in January. The attraction of issuing in sterling is the basis swap, which simply has not been there this year.

“Getting a sterling issue away is highly dependent on swaps,” said Charlie Berman, chairman of EMEA DCM at Barclays. “The focus has been more about issuer’s hitting their borrowing targets when swaps are tighter rather than a reflection of investor appetite.” Although investors are not selling sterling, they are not buying them either.

Kangaroos and Kauris

But other currencies, notably the Australian and New Zealand dollar have seen issues and for both of these currencies, the attraction has been basis swap trades. “If the swap is there, issuers will surely consider it,” said Deutsche’s Northfield, speaking on a visit to Australia.

German government-owned development bank KfW took its outstanding Kangaroo issuance just over the A$25bn mark in mid-March with a A$400m tap of its 3.75% July 2018s. This follows the original A$1bn issue sold in January and an A$500m tap of its 5.5% February 2022 in February.

To put that into perspective, last year, the lender raised A$4.95bn from 12 visits to the Australian dollar market. Rentenbank has been just as active, with Kangaroo issuance now at a total of A$11bn. Deutsche led all of those deals

In New Zealand there has been a rush to Kauris. Issuers have now raised a total of NZ$2.6bn in the Kauri market so far this year, after deals from Rentenbank, ADB, NIB, Export Development Canada, International Bank for Reconstruction and Development and the IFC. That is already well above the totals of NZ$2.075bn in 2011 and NZ$2.3bn in 2012.

Peter Dalton, director of DCM at TD Securities in Sydney who led the IBRD deal, believes that there will be more Kauri issuance. “Given the broad-based demand for this issue we would not be surprised to see further supply from other supranational and sovereign borrowers,” he said.

US cliff concerns

In the US, it might be thought that Treasury issuance would decline in 2013, especially in the light of the much-debated fiscal cliff, but in fact it is likely to stay much the same. “Although the deficit is coming down, the gross issuance needs are not changing,” said Michael Cloherty, head of US rates strategy, RBC capital markets. He points out that Treasuries issued between 2008 and 2010 are starting to come due and need to be refinanced.

For agencies, however, issuance this year will undoubtedly be lower from the big three: Federal Home Loan, Freddie Mac and Fannie Mae. Following the Federal takeover of Fannie Mae and Freddie Mac in 2008, issuance has been shrinking at 15% a year as they have fewer assets to finance. Lawmakers are widely expected to be winding them down. As a result, issuance has not been especially enthusiastic, and rarely been seen above a tenor of two to three years.

The search for yield has become paramount, so much so that even Triple A agencies do not always come up trumps. Thanks to squeezed pricing at MS –26bp, in early April KfW’s €2bn 0.375% April 2017 left HSBC, Morgan Stanley and Societe Generale CIB with a small position. What volume there is has come from SSA in Eastern Europe. “In a world of low interest rates and tight spreads you look for yield,” says Barclays’ Berman.

In mid-February, Hungary returned to the international markets with a US$3.25bn, 5s/10s dual-tranche deal that priced at 4.125% and 5.375% respectively. The book hit a hefty US$12bn which shows how attractive it is. Following closely after this was Romania with a US$1.5bn 10-year 144A/Reg S. At the end of last year Romania said it intended to raise €2.5bn in the international capital markets in 2013. It was priced tightly, but still at 4.375%, thanks to a US$7bn book. And then Serbia achieved its funding target in one deal with a US$1.5bn seven-year bond at Treasuries plus 378.4bp and a coupon of 4.875%.

At the beginning of December, the AllianzGI RiskMonitor survey revealed that investors increasingly saw core European sovereign debt more as a donation to Europe’s immediate stability than a genuine source of long-term returns for pension scheme members. The alternative, said 37% of respondents, was emerging market debt.

And so far at least, Eastern and Central Europe has begun the year in some style.

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