A clean pair of heels

IFR Top 250 2014
7 min read

Portugal has closed a troubled chapter: exiting from a €78bn bailout. Despite concerns over the country’s €214bn of debt, and the fact that its sovereign debt is still junk-rated, there is a general consensus that momentum is going in the right direction.

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The pain of Portugal’s tearful exit at the semi-final stage of this year’s Eurovision Song Contest on May 6 was eased by a more triumphant and significant one later in the month when the country made a clean break from its €78bn bailout, joining Ireland as the second bailed-out peripheral European sovereign to put its woes behind it.

For Portugal this is an impressive turnround – only four months ago there was still talk that the country needed a second bail-out. Positive economic data coupled with a broader rally in peripheral European bonds underpinned by expectations of new stimulus measures across the eurozone have, however, enabled Portugal to close a troubled chapter.

In an official statement announcing its exit on May 18, the European Financial Stability Fund, which contributed a total of €26bn to a joint external financing package of €78bn that also included loans from the European Financial Stabilisation Mechanism and the IMF, said the programme of economic reforms undertaken by Portugal had “laid the foundation for an economic recovery”.

“Portugal has achieved very significant reforms. It has reduced spending significantly and the state has improved its efficiency. The progress it has achieved is reflected in a 200bp tightening of its debt in the last 18 months,” said Zeina Bignier, head of public sector origination and deputy head of DCM at Societe Generale.

Regaining access to the bond markets and restoring liquidity were also crucial cornerstones in the road to the exit from its 2011 bailout, and momentum began to build in January when the sovereign was emboldened by the success of a €3.25bn tap of its 4.75% June 2019 bonds – a transaction that attracted more than €11bn in orders. A month later, it raised €3bn through a tap of its 5.65% February 2024s. Aside from strong investor demand and tight pricing, Portugal was also encouraged by the quality of the book and the re-emergence of real-money accounts.

Joao Moreira Rato, chairman of Portuguese debt agency IGCP, said: “Hedge funds represented only 2.4% of our last syndicated issue. We are mostly seeing a very significant return of real-money investors. In our last syndicated issue the share of insurance/pension funds/central banks was 10.5% of the total.

“In the last syndicated issue, [the] Benelux [region] had a share of 11.8% and Scandinavia 14.4%. The reports we receive about secondary market flows show a more recent wave of inflows from Germany and Austria. We see some insurance companies in France starting to gradually extend maturities in the secondary markets.”

True test

But Portugal knew the true test would come with its first bond auction since the bailout, and that came on April 23 when it issued €750m of 10-year bonds at an average yield of 3.58%. “We have now re-established the type of market access we had before the crisis through a combination of auctions and syndicated deals,” said Rato.

At the start of May, Portugal had accumulated a cash buffer of close to €15bn. Rato said that with redemptions totalling €12.6bn at the start of the year with peaks in June and October, and executing the existing financing plan, IGCP would enter 2015 with €3.6bn of net new funding, excluding the €6.4bn that it has deposited with the Bank of Portugal pending the outcome of the European Central Bank’s stress tests.

Portugal is planning a further €4.7bn of funding between now and the end of the year, by which time it may come to the market with a new syndicated bond deal. But first it sees regular use of the auction window as key to maintaining liquidity.

Rato said: “The regular tapping via auction facilitates liquidity in the secondary market, where volumes increased to 2009 levels. It is very important that we keep our auction prices in line with the secondary market.“

There are concerns, not least the fact that Portugal still has €214bn of debt, making it the third highest in the eurozone, then also the lack of pan-party agreement on reforms. Portugal needed to make a clean exit for political reasons to stave off opposition in the recent European elections, and economic data will be viewed closely, while its reliance on exports remains a concern.

“It will be important to look beyond political issues and focus on hard economic numbers, which are improving,” said Kateryna Taousse, associate director at Pacific Alternative Asset Management.

“In some aspects, Portugal’s economy is not really that different to many others in Europe with certain dependence on exports, so to a degree its future growth trajectory could be influenced by the global economy. Overall, the bailout exit is a positive development and as long as the government continues to do the right things without the Troika’s oversight, the positive momentum is expected to continue.”

Unlike Ireland, which regained its investment-grade status ahead of its bailout, Portugal still languishes in junk status, although shortly before its exit, S&P affirmed Portugal at BB and revised its outlook to stable from negative.

Rato said that the sovereign had not been held back by its credit rating, adding: “There are still investors with no rating constraints or with soft ratings constraints that have been on the side-lines and are looking to participate in the Portuguese Government Bond market. The volumes will be even higher when Portugal becomes investment grade.”

Perhaps a bigger concern is the dramatic rally in sovereign bond yields since the turn of the year as the market positions itself for another injection of liquidity by the ECB to stave off deflation.

Some investors may feel borrowing costs for some peripheral names have fallen too far.

Taousse added: “Investors say don’t fight the Fed and it’s the same with the ECB. Investors who are worried about where peripheral spreads are can pick their battles and take one over another, rather than betting against the direction of the market.”