Turkey 2005 - Rebasing opens international market
The international Turkish lira bond market has enjoyed an explosion of issuance since the beginning of the year, following a rebasing of the currency and ahead of negotiations for EU membership. Volumes have far surpassed expectations, and bankers believe that this is only the beginning. Helen Bartholomew reports.
The Turkish currency reform that came into effect on January 1 has opened a new market for Europe's frequent issuers. Although the currency has been tradable for some time, now that it has become more manageable – losing six zeroes – investors are viewing it with keen interest. Issuers have taken their first steps in a market that had previously been limited to synthetic transactions. Results so far have surpassed expectations, with volumes topping US$3bn equivalent by mid-March.
"This market would not have happened without the rebasing, as it would be physically impossible to clear such trades. The rebasing has absolutely been the catalyst . . . without it we probably would have seen a few hybrid trades targeted at institutional buyers," said David Smith, vice-president, fixed-income origination and syndication at TD Securities.
While the currency rebasing was the trigger, the drivers taking the market forward are different. Turkey's credit upgrade from Fitch to BB– from B+ for local and foreign debt has made the market available to a wider international audience, in particular those keen to play the credit improvement story, and a series of rate cuts has provided a perception that currency risk might be receding.
The speed with which this market has grown has created concerns however that it could have been over-played while still in its early stages. But bankers remain optimistic, and confirm that there are still new investors and issuers queuing up to jump in. With all of the recent EU accession local currency markets now paying single digit yields, and many of those coming closer in line with the eurozone, the Turkish lira offers a rare opportunity to pick up double digit yields. In addition, thanks to an inverted yield curve it is particularly attractive to retail investors who can reap the greatest yield pick-ups at the short end.
Bankers estimate that 2005 will end with around US$6bn equivalent in issuance, but with volatility playing such a large part this is almost impossible to call.
The TL market opened in late December with a five-year issue from the International Bank for Reconstruction and Development (IBRD), which sold a TL70m (US$51m) five-year bond via lead manager JP Morgan. The issuer was able to take advantage of the impending rebasing due to a January settlement date for the transaction.
It was not until mid-January, however, that the market really gained momentum, KfW testing the water with a TL50m two-year issue. Lead manager TD Securities found strong support for the transaction and the deal was upsized twice within the week, taking the total deal size to TL125m.
"The levels that we were able to achieve in this market are attractive and basically in line with what we can achieve elsewhere, otherwise we wouldn't have considered the deal. As well as securing attractive funding, one of our key goals is to increase the diversity of our investor base and for our existing investors to increase the diversity of the products that we offer," said Horst Seissinger, first vice-president, capital markets at KfW.
Hot on the heels of KfW came Rabobank, which along with the German financing agency has become one of the market regulars in building a full yield curve in the currency.
"We were talking about Turkey as the next convergence play for some time, but hadn't really thought that it would take off this early. When it did, we wanted to be at the forefront of this market rather than wait on the sidelines," said Michael Gower, director of long-term funding at Rabobank.
Since its inception in January, the TL international bond market has attracted more than 20 different issuers. While most are the typical array of Triple A names – such as European Investment Bank, European Bank for Reconstruction and Development, Rentenbank and Swedish Export Credit – the market has also attracted some names from the Double A universe such as Barclays, UBS and HSBC.
Although primarily a market for European names, there have been a few surprises, particularly with the appearance of Export Development Canada.
“We're constantly monitoring all markets, and after we saw a number of high-quality issuers enter the Turkish Lira market, we were able to assess what opportunities existed to fulfil investor demand. Due to geographic proximity, it is always easier for the European issuers to enter a new market in this area of the world. We have to bring proceeds back to the company in US dollars as it is the currency of preference to support Canadian exports," said Marie MacDougall, vice-president and treasurer of EDC.
EDC was one of the first names to take advantage of the opportunities at the very short end of the inverted curve with its one-year maturity. But unlike some issuers, which have proceeded in developing a range of maturities in the currency, EDC has no such plans.
"The March 2006 maturity is where we saw demand, and with our strong name recognition, investors were quick to participate in this transaction as evidenced by it being reopened twice. Given that EDC's requirements are denominated in US dollars, building a yield curve in this currency is more difficult than it would be for other issuers," said EDC's MacDougall.
With the inverted yield curve, retail investors in particular are being attracted to the shorter end of the curve, but there is also strong institutional interest at the longer end for the more optimistic investors looking to play the longer-term convergence story.
"The convergence story is a long way off, but Turkey's fortunes will be closely correlated, and as a trading partner it will see substantial convergence whether or not it eventually joins the EU," said TD's Smith.
EIB, SEK and Rabobank are the three issuers that have built curves right across the maturity spectrum. The EIB has nine outstanding issues with total volume of more than TL1bn. Both Rabo and the EIB have pushed the curve out to 10 years with 2015 issues. The deals were structured as deeply discounted zero-coupon bonds, which allow investors to reduce their upfront risk on a longer-term bet. SEK was the first to use the structure, with a TL50m February 2005 bond that was later increased to TL100m via lead manager UBS.
“The structure is similar to that seen in the South African rand and Greek bond markets in their early days. In Turkish lira, the swap market makes it easier to do 18-month to three-year transactions, but with short-dated bonds your exposure ends just as the currency is getting interesting,” said one UBS syndicate banker.
In spite of the increasing number of institutionally targeted issues, retail interest has been gathering pace in recent weeks. According to bankers at TD Securities, institutional interest represented around 80% demand in the TL market's early stages, but the split is now 50-50, with institutional accounts playing an important part in driving new issues
“The more sophisticated investors jumped in early, but many stayed on the sidelines thinking the market could be a flash in the pan. Now that they've seen a variety of quality issuers enter the market, an increasing number of investors have become more comfortable that it will continue to develop," said TD's Smith.
Like all local currency markets, deal sizes remain small (at around TL50m) and many borrowers have been tapping outstanding issues in order to boost liquidity. The largest is now the KfW due January 2007 bond, which stands at TL300m. But bankers warn that constant taps can be difficult in such a volatile currency as deals can quickly find themselves with a non-current coupon.
"A larger, more liquid transaction in these currencies will of course be more compelling to the investor base. The process of launching and subsequently tapping an issue sends out all the right signals. However, given the extreme volatility we have witnessed in these markets, the challenge for lead managers is a lot greater than in most of the other non-core currency markets." said Daniel Diaz, a syndicate executive at Rabobank.
A strongly growing economy and continuing TL currency appreciation have been fanning the flames for new issuance since the start of the year, and the currency has shifted from 1.45 to the US dollar at the start of the year to as tight as 1.27. A major sell-off in mid-March across all emerging markets brought the exchange rates back around the 1.40 level, but bankers remain confident that the shift will have no real impact on volumes going forwards.
"What will kill the market is if it rallies too aggressively as the inclination to take profits early can be too tempting, so this pull-back has been positive for the market and should help to maintain strong interest," said TD’s Smith.
But while credit remains expensive, bankers believe that demand for Turkish lira bonds will remain strong. Many are beginning to see a Triple A name in lira as a safer bet than buying lower-rated corporates in euros and dollars at current compressed levels.
And the trend is unlikely to stop in this currency. Many of these buyers are looking at new markets such as the Mexican peso or the Romanian leu.