Currency pioneers

The last 12 months have certainly been interesting. But at times like these it is easiest to differentiate between the highest quality issuers and everyone else. During the extended bull market that ended in the summer of 2007 there was a gradual erosion of the kind of hard-headed investor scrutiny that has since returned in force. Companies wishing to raise capital had found it easy surfing the waves of investor exuberance, without having to worry unduly about pricing their debt. No more though. The winners in this market are those that put the needs of their investors before their own and adopt a flexible approach. Those that feel a sense of responsibility towards the market – not only using the market for their own needs, but offering their services in the market’s time of need – will emerge from this period stronger. Today, price is everything. Some names can raise all the money they need while others struggle with the larger financing requirements, but everyone has found it necessary to price more aggressively. The phenomenon is true in all the asset classes, from bonds and loans to securitisations. But that is not to say the effect has been spread evenly, by asset class or by geography. In terms of pricing, financials have been hit harder than corporates, for example. Securitisations have, of course, been among the most extreme casualties of the credit crunch, in terms of issuance numbers, pricing and performance. But in the European bond markets, the long end of the curve and the high-yield markets have also been decimated, with nothing priced since July 2007. Senior unsecured volume is not much over 50% of last year, and capital issuance is well under half its 2007 levels. There has been happier hunting in Japan. As our feature on the Samurai market makes clear, issuance has spiked to levels that suggest that if there is a credit crunch happening, nobody told the Japanese. The market has attracted issuers from all over the world, but the real champions of the phenomenon have been the Australian banks. Where the market will go from here is anyone’s guess. Few feel brave enough to call the bottom and predict a bounce-back in the second half of the year, but some believe we may be past the worst. What is clear is that the borrowers that learn the lessons from the last 12 months and spend time listening to their investors will emerge better for it.

In early May 2008, American International Group (AIG) raised the equivalent of nearly US$20.3bn – well above its initial target of US$12.5bn. But not everyone is convinced even this sizeable injection is sufficient for its needs. In the first quarter of the year AIG reported a US$16.1bn fall in its book value, equivalent to 17%. Since the end of the third quarter of 2007 it has lost US$24.4bn, or some 23% of its book value. With a range of subsidiaries ready to suck money out of the parent, rating agencies could be ready to suggest an increased capital cushion requirement, according to Joshua Shanker, an analyst at Citi in New York. With accumulated pre-tax mark-to-model losses of US$20bn related to AIG Financial Products’ CDS portfolio, US$9.7bn of realised capital losses, another US$18.6bn in unrealised losses and general malaise in the economy, “AIG’s largest challenge is to manage its credit and mortgage related assets and liabilities,” said Shanker. In what was perhaps the defining moment of the year for the insurer – notwithstanding the defenestration in June 2008 of CEO Martin Sullivan in favour of chairman Bob Willumstad – February saw AIG forced to reveal miscalculations in its losses related to its CDO portfolio. Soon after, it made a second announcement, admitting that its October and November write-downs would be closer to US$5bn than the US$1bn it had previously suggested. AIG remains bullish on its RMBS portfolio. “There is a lot of credit enhancement in this portfolio, and it takes a very, very severe decline in the markets before we have significant ultimate realised losses,” said Win Neuger, AIG’s CIO. The equity and equity-linked portions of AIG’s May capital raising programme had raised a combined US$13.4bn, the success of which then propelled hybrid debt deals denominated in sterling, euros and dollars – all three led by Citi and JPMorgan. The dollar portion totalled US$4bn, rated Aa3/A/A+ and priced with an 8.175% coupon, or 354bp over Treasuries. The euro and sterling hybrids came in a 60/30 non-call 10 structure. The euro issue came to €750m, priced at a yield of 10-year mid-swaps plus 345bp, or an 8.00% coupon, which was about 25bp behind the outstanding 4.875% hybrid. The £900m tranche printed at 385bp over Gilts for a 8.625% coupon, or about 35bp behind the existing 5.75% hybrid. Both the euro and sterling trades were said to be 2.5 times covered. In June 2007 AIG had raised €500m in a 10-year deal that was subsequently tapped for a further €100m on the back of attractive absolute yield levels on offer. The 5% June 2017s were priced at mid-swaps plus 23bp and were driven partially by reverse enquiry. Led by Barclays Capital, BNP Paribas and HSBC, the deal was rated Aa2/AA/AA and priced at plus 23bp – an ample new issue premium, considering its outstanding April 2016 deal bid at plus 19bp. In August it completed a US$1bn two-year floater, priced at par with a coupon of Fed Funds plus 50bp – reoffered at a discount of 99.943. “The convertible and debt offering will increase the annual interest expense by almost US$1.1bn, or $0.30 per share net of tax,” predicted Shanker, despite only replenishing the capital it lost. Things are only likely to get worse if the US economy continues to deteriorate as some predict. The problems afflicting AIG are illustrated by its renegade business unit International Lease Finance Corp, which is seeking a split from its parent. But should a split occur, AIG will at least be in line for some level of compensation. Moody's downgraded AIG to Aa3 in the wake of the news that the unit might go it alone, while confirming ILFC's A1 rating. Investors were also wary as ILFC itself entered the market with a benchmark-sized offering of 5.5-year notes in late May. “We continue to believe that AIG's solvency remains sustainable in the long term given its global and diversified platforms,” concluded Shanker, though in the short and mid-term the road could be bumpy. “Pressure in core ope

An important preliminary element of the Inter-American Development Bank’s (IADB) issuance process is continual dialogue with investors to gauge demand and canvas feedback. Much of its debt is issued on a reverse enquiry basis. This leads it to issue in a wide range of currencies: it has issued in eight already in 2008, and managed 12 last year. The bank has been a beneficiary of a flight to quality since the onset of the credit crunch. Investors are keener than ever to access Triple A names to minimise their credit exposure, especially as many of the Triple A structured credit investments they made have failed to deliver as advertised. They are also attracted to the IADB due to the liquidity it offers and the performance of its debt – a function of its competitive pricing and performance in the secondary market, said Laura Fan, head of funding at the bank. For example, in its biggest issue of the year, IADB priced its US$1.5bn March 2013 issue at the end of February at mid-swaps less 24bp, or US Treasuries plus 60.25bp, through JPMorgan, Morgan Stanley and RBC CM. The 3.5% deal priced with five-year notes yielding around 2.9%, and soon after rallied by nearly 30bp. It was one of two benchmark issuances expected this year. Last October it issued another benchmark, five-year US dollar deal through Citi, HSBC and Morgan Stanley, raising US$1bn. It was the final instalment of its US$5bn annual funding needs and, again, it had no trouble attracting investors, despite a simultaneous rally in Treasuries. The deal launched at mid-swaps less 21bp, amid concern regarding the duration of the issue, which did not follow the conventional wisdom of going for 10-year. Instead it issued a 4.75% deal due October 2012, a decision which was ultimately vindicated by the deal tightening after launch. This year the bank’s affiliate the Inter-American Investment Corp became the first Latin American borrower to tap the Japanese bank market, using a cross-border syndication without credit enhancement. Dubbed the Ninja loan, the US$50m three-year opened up the Japanese market to a range of new investors at a time when the US loan market was looking more volatile. Margins were undisclosed, but heard in line with Double A names in US – anywhere between 25bp and 50bp over Libor. The deal was arranged by Mizuho, among several other Japanese banks and BBVA's Tokyo branch. It is partly the IADB’s ties to Japanese investors – especially retail investors – that drives its currency diversity. With Japanese investors looking to invest in higher yielding currencies there has been an extra incentive to issue in non-core currencies, explained Fan. For example the bank sold a A$200m tap of its three-year Kangaroo bonds in February via lead manager TD Securities, bringing its total outstanding on the bond to A$800m. The due June 2011s have a coupon of 5.75% to yield 7.58%, equating to 79bp equivalent governments. And its 7.50% April 15 2015 Kauri issue, originally launched last December, was increased by NZ$200m in January, bringing the total to NZ$300m. This deal was led by joint lead managers Bank of New Zealand and TD Securities, with the new tranche having a gross reoffer price of 102.581707. But it is not only Japanese retail investors that hold the IADB in high esteem, or who drive it towards non-core currencies; many of these deals have found favour with a broad range of investors – from central banks to pension funds and asset managers. In fact, around 40% its benchmark issues are taken by central banks, said Fan. There is also a segment of investors who are attracted to IADB as a socially responsible investment for the work it does in promoting sustainable growth and poverty reduction in Latin America and the Caribbean. There is plenty more yet to come. Its annual financing target is US$9bn, of which it has so far raised US$5.6bn. A good portion of the remainder is likely to be in US dollars, Fan said, though a range of other currencies is also possible.

Institutions can be grouped by their risk tolerances. Pension funds’ risk appetite is principally a reflection of their liabilities: the age of their policyholders and the level of funding already covered. Larger mismatches and more imminent liabilities reduce pension funds’ risk appetites and encourage greater allocations to bonds, which match the liabilities. Insurance companies, for both cultural and regulatory reasons, manage their liabilities much more closely than pension funds. An increasing trend towards liability driven investment (LDI) is creating a growing dislocation in the UK inflation market. There are approximately £1,000bn of UK pension liabilities, said Rupert Brindley, head of life and pensions solutions at UBS, but only £170bn of index linked assets with which to hedge them. Thus as pension funds move further into LDI, this 6:1 shortfall becomes more acutely felt, driving up the cost of inflation matching. The trend is further exacerbated when pension funds transfer their liabilities to insurance companies, since the insurers have a price-insensitive regulatory obligation to closely match liabilities. The inflation problem is less acute outside the UK, Brindley said, although many countries – particularly the Netherlands, the US and Scandinavian countries – face similar cashflow matching issues. The market needs more corporates to issue index-linked bonds, and with 30-year inflation now just under 4%, this may offer a sufficient incentive for them to do so, said Brindley. A reopening of the securitisation market with a supply of quality index-linked cashflow would also help to alleviate the bottleneck. But ultimately, to resolve the structural mismatch, the market will need new quasi-insurance players to emerge with the capacity and flexibility to retain much of this long-term inflation risk – replacing those hedge funds that have backed out of the market as they adopt more defensive positions. Growing pension liabilities and increasing moves to LDI are also boosting demand for debt at the long end of the curve – a phenomenon that utilities have been particularly quick to respond to, said Tarik Ben-Saud, head of LDI at BGI Europe. But ultimately, said Ben-Saud, institutional demand is driving bank innovation in developing derivatives and then stripping the cash flows out into their component risk elements, such as inflation and interest rate risk, and repacking them individually. This allows investors to manage their exposures more accurately. It is not all bad news for institutions, however, since in at least one instance the credit crunch has had a beneficial impact: the increasing cost of inflation is being offset by the enhanced rates banks are willing to pay to secure long-term funding. According to Brindley, increasingly attractive pricing in the investment world means UBS will pay Libor plus a healthy margin on a fully-collateralised investment that confers minimal credit risk – compared to a flat Libor return before the crisis. Sources indicate typical bank levels are around Libor plus 50 bps. With the higher cost of inflation on the one hand compensated by higher investment income on the other, institutional investors have so far been spared the pain associated with increasing inflation costs, Brindley said. Yet a gaping lack of trust exists between institutional investors and the investment banks that serve them, according to Phil Irvine, head of advisory services at UK consultancy Liability Solutions. He insisted banks must work hard to build up their advisory relationships and develop a greater level of trust. Most institutional investors make allocations on a relatively long-term basis and need to be convinced of the worth of a product before they commit. This represents a massive opportunity for investment banks, according to Irvine: there is an ever increasing demand for derivatives as part of portable alpha and asset liability management strategies. In fact, derivatives are an increasingly im

The new Hypo Real Estate Group came into being as a result of its acquisition of DEPFA BANK late last year, a move that implied a significant strategic shift for both entities. DEPFA span off its real estate business to Aareal in 2002 and has, over the years, successfully positioned itself as a thoroughbred public-sector covered bond issuer. Hypo Real Estate, in contrast, has primarily established itself as a real estate bank. More recently, however, it has utilised its public sector business through the Hypo Public Sector Finance Bank subsidiary. The areas of responsibility within the new Hypo Real Estate group are divided into three main sectors. Its commercial real estate segment consists of the two subsidiary banks: Hypo Real Estate Bank International and Hypo Real Estate Bank. Following the integration of Hypo Public Finance Bank in DEPFA BANK, public sector and infrastructure finance worldwide is handled at DEPFA BANK – a segment which also includes DEPFA Deutsche Pfandbriefbank. All group activities relating to the capital market as well as asset management for real estate secondary products are also handled in DEPFA BANK or one of its subsidiaries. The group funds itself on the international capital and money markets, including through mortgage and public Pfandbriefe: 47% of Hypo Real Estate's balance sheet was refinanced through Pfandbriefe and through its merger activities the group has became one of the largest covered bond groups – second only to the Commerzbank. Of the remaining 53%, 48% is funded via repo. The remaining 5% comes via the money markets, where the average life of the group’s instruments is over four months and the average cost of funding is Libor minus 14.5bp. As of June 2007, the group had an outstanding covered bond volume of nearly €160bn. Without a doubt, the funding markets have become a major concern for the global banking industry, and Hypo Real Estate is no exception. George Funke, CEO of Hypo Real Estate Holding recently said a distinction should be made between the two platforms at the Hypo Real Estate Group. "DEPFA has highly liquid assets mostly consisting of ECB and repo eligible papers. These are securities which are used as collateral for refinancing transactions with the European Central Bank. This means that, together with existing liquidity, there is a buffer of approximately €38bn," he said. In the field of real estate financing, all lending is refinanced on the basis of matching maturities. The necessary question is therefore, Funke said, whether Hypo Real Estate has adequate liquidity for new business. “Simply put, one third of our real estate portfolio is financed by Pfandbriefe, one third is financed by borrowers' note loans (Schuldscheindarlehen) and one third is backed by uncovered bonds. We continue to have access to long-term uncovered funding, whereby the terms have shortened and spreads have widened as a result of the market turmoil," he said. The Hypo Real Estate Group has not been immune from the volatility and negative write-downs plaguing the market. Its 2007 net trading income of minus €224m was affected by the widening of credit spreads and includes valuation effects of synthetic CDO's at €198m. Its net income of minus €169m (€79m FY 2006) for 2007 includes write downs of cash CDO's in Q4 of €268m. Earnings after tax of € 457m were down by 15.7% on the previous year and the attainability of the 2008 group pre-tax profit target of between €1bn and €2bn has been doubted because of "a deterioration in market conditions since the beginning of the year." Funke also stated that the possibility of further charges on earnings from US CDO's and other credit linked investments cannot be precluded. In April, Hypo Real Estate International priced a new two-year German mortgage Pfandbrief at mid-swaps plus 9bp – a level the market generally deemed as generous, taking into account that secondary spreads of comparable outstanding mortgage Pfandbriefe trade at an average of mid-sw

Volkswagen’s ability to access the securitisation market reflects the loyalty of its investor base – a fact that other securitisation borrowers need to sit up and take notice of. In the pre-crisis world of leveraged demand, it was all too easy for borrowers to forget the importance of maintaining a good long-term relationship with investors. Breeding loyalty is about integrity, honesty and trust. "We are a frequent issuer and feel we have a certain responsibility towards the market," Stefan Rolf, head of Volkswagen Financial Services' ABS team stated in January. From the mouths of many prolific issuers of certain regions, these would sound like empty words. Regrettably, many issuers are still taking their investors for granted. But at some point, these words will come to differentiate the winners from the losers in today's post credit crisis world, where access to liquidity grants survival. In testimony to its success, VW has issued six deals worth over US$6bn since the credit crisis begun. These transactions were not infrequently oversubscribed and upsized. In November 2007 VW Leasing issued the €970m VCL 10, the first deal to price successfully price in the European ABS market since the summer without pre-placement of any tranches. A month later in December it issued the €250m Private Driver, a transaction that speaks to investors not wanting volatility in their portfolios, as the Schuldschein notes backing it, do not have to be marked to market. Two months later in January 2008 VW Bank performed a miracle by placing €1.2bn Driver 5. The deal priced tighter than initial guidance and was increased. Again in February, just when the securitisation market was at its nadir, the borrower priced the £500m Driver UK One, in line with guidance on an oversubscribed book. In May it returned, this time to the US market, with its US$1bn (VALET) 2008-1 which also enjoyed a blow-out reception. It followed up in the same month with another Schuldschein backed European private deal, the €245m Private Driver 2008-1. Among these deals Driver 5 and VCL 10 stood out as being particularly merit worthy. VCL 10, via West LB, was the first European deal to price since the onset of the credit crisis. The 1.4-year Triple A piece priced at the tight end of guidance at one month Euribor plus 37bp and was 2.2 times covered. Driver 5, via RBS (ABN AMRO) and HSBC, was notable for being the first public European securitisation of 2008 and one that had to overcome considerable odds to make it to market. The 1.95-year Triple A piece was increased from €934m to €1.214bn and was twice covered, pricing at the tight end of guidance at three month Euribor plus 58bp. The A3/A- rated car maker also played a crucial role in the senior bond market last year, successfully re-opening the sector in October 2007, amid the credit crisis, through its leasing unit, with a €1.25bn 4.875% October 2012 transaction via Barclays Capital, Deutsche Bank, DZ Bank and SG CIB. The transaction printed at mid-swaps plus 47bp on the back of a total order book of €6.6bn. Apart from kick starting the primary auto sector post summer, the issue was also notable for the fact that at 19.5bp, the negative basis was the lowest in the midst of a flow of corporate issuance, reflecting increased investor confidence coupled with the credit quality of the group. Volkswagen was then absent from the market until early May 2008 with what represented another milestone issue, this time re-opening the automotive Eurobond market in 2008. The group targeted the three-year part of the curve this time around with the help of HSBC, RBS and UniCredit, placing €1.25bn of 5.125% May 2011 bonds at mid-swaps plus 75bp, the tight end of revised guidance of plus 75-80bp on a total order book of €4.5bn. The bid from domestic accounts was particularly notable with around 40% of the paper placed within Germany. The borrower followed this up in June 2008 through its finance arm VW Bank, rated A2/A. The group was one of a

The volume of Samurai issues achieved already this year is truly remarkable, already matching the total annual issuance over much of this past decade. The fact that the majority of new prints came at a time when the sub-prime jitters were still being felt makes it all the more impressive. And the volume could well increase, given that some ¥797.9bn of Samurais are maturing this year, according to data from Thomson Reuters. The Samurai market offered the liquidity to foreign borrowers after the credit crunch carnage brought tightening to other major global markets. The Japanese market was active when the US and European markets were shut at the end of the last year and for some timer at the beginning of this year. In fact, after seeing slightly more than ¥2.2trn, an almost record volume of issuance in 2007, the opinion about the market at the end of last year was divided. At the time there was a vocal minority of domestic and foreign bankers voicing a sharply pessimistic opinion about what was to come in 2008. They were predicating a gloomy picture for this year. Some pointed towards the many Japanese investors biting their lips from the widening of the US FIGs’ Samurais. Traditionally, the largest borrowing in terms of market share comes from the US, with more than half of the market’s total issuance. Its financial sector is particularly active, as Thomson Reuters data shows. "The Japanese institutions were relatively less hit compared with the US and European counterparts. The investors are historically stable, they are mostly buy-and-hold, no flippers in the market, and this provided the needed liquidity," said Koh Kawan, head of non-Japan debt syndicate at Daiwa SMBC. There is also another view point. “The spread was one of the main reasons to get investors interested. Well-known issuers came to the market and offered a spread of 100bp [over Libor] compared to domestic issuers which were issuing at about Libor flat,” said another syndicate official at a major house. This was visible at the end of the first quarter of 2008 when the Asian G3 investment grade landscape was dismal, with just one completed public US dollar deal – a US$300m five-year in February for South Korea's Komipo. This is where the Samurai market stepped into the breach. “Late last year and earlier this year, Japan was automatically the cheapest place to issue,” said a London-based fixed income banker. The market remained spectacularly robust – in fact, even a sense of freshness could be felt. All this came despite US financial institutions having been notably absent from the market this year. Issuance by US borrowers, in the current absence of the large investment banks, has totaled about US$4.2bn in Samurais year to date. The market has also been transformed by the disappearance of well-rounded deal figures, which have been replaced by eye-catching, odd-number issue sizes in the vast majority of deals. "The odd-figure issue sizes show that brokerages do not have much capacity to aggressively take positions. This would continue for at least the whole year and may be next year could get better," said Tetsuo Ishihara, senior credit analyst at Mizuho. "The odd issue size figures send out a signal to the market that there is not so much secondary liquidity. This can be good if you are buyer, it would mean cheaper prices, but also it will be a hard time for the selling side to get a good bid price, depending on the issue." As for Asia, when it comes to Korean borrowers they usually represent the lion’s share of issuance. However, they have had a lacklustre 2008, having so far printed slightly less third the volumes generated by in 2007. Woori Bank has started early Samurai documentation work and has mandated Credit Suisse, Merrill Lynch, Nikko Citi and UBS for the job. However, the decision by Export-Import Bank of Korea (Kexim) to pull its deal, filed as ¥28.5bn, at the 11th hour sucked some wind out of sails for Korean issuers in that market. Meanwhile, the

In spite of the vast numbers involved, General Electric (GE) had little problem selling US$8.5bn in bonds just a few weeks after the announcement of its Q1 results. In doing so it proved what really counts – and probably even more so in a down market – is company quality, a Triple-A rating and a long history of reliability and performance. “We anticipated demand [for the deal] would be solid, but subscription was much bigger than we thought,” said Kitty Yoh, GE’s deputy treasurer. “This was a strong endorsement.” At this juncture market participants – issuers as well as investors – appear hopeful that the worst of the crisis is over, even as they continue to guard against any unexpected developments and contend with ongoing volatility. Issuers can’t hope for too much by way of placing debt at a price level that benefits them because spreads aren’t going to tighten for sometime, but “we are hoping for stabilisation and money seems to be coming back in,” Yoh said. Regardless of the market climate, GE is going ahead with its plans for raising US$80bn in debt for 2008, according to Yoh. Thus far, the company has raised US$57bn, “so we are well on track to meet our goal. The proceeds will be used for general purposes in our financial service businesses [and] we are still finalising our 2009 funding plan.” GE’s Triple A credit rating, coupled with the fact that the company can avail of global distribution of its debt in terms of both investors and the currencies that it issues paper in, places GE in an advantageous position vis-à-vis its issuer peers. Indeed, GE has been able to place paper wherever investor demand is strong, Yoh said. The company has also been in a position to take advantage of market windows when they occur. Late last year, for instance, GE Capital issued an ¥87bn Samurai issue – a deal that went down extremely well in troublesome times (its floating-rate note tranche was a huge success). Some argued GE paid a slight premium compared to where it would have priced had the issue been in US dollars. The deal gave Japanese investors access to highly coveted GE debt at bargain prices. Even so, rival issuers and investors alike concurred that the Samurai issue sold at a far better level than what GE would have achieved in the US dollar or euro markets at that time. In addition to its proven dexterity at issuing debt in whichever market it deems most opportune, GE continues to have strong cash flow. Every year the company sets aside between US$3bn and US$5bn to invest in industrial acquisitions. This includes investing in the energy sector – an area mergers and acquisitions (M&A) experts said will see a lot of action this year, on account of ongoing consolidation in several parts of the world. “We are always looking at ways to invest, acquire, partner or sell to maximise the performance of our portfolio,” Yoh said. “For any M&A scenario, we would evaluate all of our funding options, depending on the size of the transaction.” Its issuance activity is too numerous to list, coming in a wide range of currencies including euros and sterling, as well as non core currencies like Australian and Hong Kong dollars. Holders of GE debt have recognised the company’s reliable performance and consistency over time, Yoh said. It prides itself on maintaining dialogue and communication with its investors, because “we hate disappointing [them], be they equity or debt [investors],” Yoh said. “We are working hard to deliver on our revised numbers.” According to Citigroup analyst Jeffrey Sprague, GE has a long reputation of executing – something that currently stands the company in good stead. However, “performance has become more uneven recently,” Sprague wrote in recent research. “Large infrastructure backlogs give above average visibility on that side of the portfolio.” GE maintains market-leading positions in each of its respective businesses and an “above-average growth profile relative to other companies in our universe,” Spragu

Those with a penchant for market history need backtrack only a year to discover that the past is indeed a foreign country, where things are done differently. Mid-2007 saw the credit markets at the zenith of their longest bull-run on record. Investment bankers, investors and issuers were united in either their inability – or unwillingness – to call an end to proceedings. Spreads were at all-time tights, fund managers awash with cash and order books many times covered. Fast-forward twelve months and, while elements of that scenario remain intact – in that investors still have plenty of resources at their disposal and a number of recent transactions have attracted an extremely strong following – much has changed. It has been one of – if not the – most tumultuous years in market history. Some observers deem it the biggest banking crisis since the Great Depression. The great – if unsurprising – change has been in the margins required for borrowers to secure funding. What has become noticeable is a greater degree of credit consciousness on behalf of the buyside and a corresponding unraveling of spreads that had become so compressed so as to make nuances of quality all but meaningless in the greater scheme of things. That was certainly not the case in the early part of 2008: supply from high-grade sovereigns, supranationals and agencies continued apace, while that from the purer credit plays in the corporate and beleaguered financials markets diminished markedly. Despite the second quarter producing record-breaking months for both corporates and financials in the European market and, more notably, producing eye-watering amounts of supply in the US (US$114bn in April and US$133bn in May – plus a further US$18bn in the retail sector), overall global volumes for the first five months of 2008 were significantly down. According to data from Thomson Reuters Markets, the amount of international paper issued across all unsecured asset classes came in at just US$771bn equivalent – compared with US$1.907trn in the corresponding period of 2007, which, in turn, was up from US$1.546trn in 2006 and US$1.253trn in 2005. A great deal of the early-year supply was from the SSA sector, although this is not necessarily a phenomenon peculiar to 2008, as the sovereigns in particular have a history of frontloading their issuance. The Libor levels available have been compelling, however, with an undeniable flight to quality evident on behalf of investors. Add to this a basis swap that meant European issuers could access the US dollar market at already attractive yields and swap back to euros at previously unimaginable levels, and all looks well. And this is a situation that Morgan Stanley’s head of syndicate, Giles Hutson, does not expect to change in the second half of the year with supply finite and investors still cash rich. “Perhaps the only cloud in the sky has been that demand was generally at the front end, in the two, three, five-year maturities,” he said. “The long end has been a bit more difficult, but they have enjoyed a reasonably happy first half of the year.” In contrast, the corporate market in the US has not been as constrained, with no shortage of 10 or 30-year paper absorbed throughout the year. The backdrop is rather different from that in Europe, however: there was never a seizing up of supply to the same degree, as the volumes that were produced on a continual basis demonstrated. As Jim Esposito, global head of investment grade financing and syndication at Goldman Sachs, pointed out, volumes in the US market have remained robust in 2008 and continue much on a par with 2007. “What has changed is the lack of activity in the 18-month to three-year sector, which used to account for about 50% of the market. In 2008, it’s only 15%,” he said. He highlighted what he called a “barbell of liquidity” available to borrowers, where the CP market and longer tenors remain open while the shorter end of the term market – so critical for balance-sheet ma

"Our primary mission is pretty simple," said Mike Ciota from Federal Home Loan Banks (FHLB) Office of Finance, "it is to provide liquidity to member banks and financial institutions through secured lending. There are about 8100 across the country, and we support them by raising funds in the global debt markets." The FHLB are purely an issuer. Each of the 12 FHLB has members in their own region, ranging in size from several hundred to well over a thousand and including commercial banks, insurers, credit unions, and savings and loans organisations. These institutions draw down borrowing from the FHLB system, of which they are members. While the volumes are substantial, the process is fairly straightforward. "One of the Home Loan Banks might require a certain amount based on member loan demand for that day or week," said Ciota. "We then aggregate that demand here at the office of finance. It may be that one FHLBank may have interest in a certain type of funding for its members, and another might have a similar interest in a different part of the country. We can quickly aggregate that here and, based on conditions, issue in a larger size." These are interesting times for the FHLB. This year, the amount of loans made to its members banks rose to a record high, and, as the credit crunch fallout continues to limit sources of funds to mortgagers, the 12 FHLB have become increasing vital to lenders. "We're a flexible issuer so we can tap the markets and obtain the most appropriate funding for member demand, then deliver very quickly," said Mike Ciota. "We believe in a broad group of underwriters. We have about 100, and 85 of those underwriters have been active already this year. We have raised US$270bn net in the past year (at time of writing). "We have a number of different products that are used to access the markets. We run auction programmes where we offer discount notes to 16 underwriters in a Selling Group. The structures offered are four-week, nine-week, 13-week and 26-week. We also auction TAP issues daily – these are bullet bonds that are reopened over time and grow to significant size. "With our mix of debt products and liberal use of swaps, we can see where investor demand is and obtain cost-effective funding while providing quality Triple A paper for investors. The FHLB generally match-fund assets and liabilities, and as such, we are a very flexible issuer.” Most of The FHLB issuance is done via reverse inquiry where the FHLB negotiates the terms with an underwriter. Historically, negotiated issuance represents about 85% of its total issuance. "But we tend to go where were the demand is best so we can get the appropriate funding," said Mike Ciota. The FHLB also have a broad cross section of investors. "Central banks are interested in larger bullet issues," said Ciota. "We have had a lot of interest from money market funds in shorter structures, like discount notes and floating rate bonds. Fund managers are also interested in whatever they think might fit best in their portfolios. About two thirds of the large global volume this year was internationally placed." The sub-prime fallout may have affected elements of FHLB membership, but at the sharp end of debt financing, there's been little change. "We're still doing the same things as a year ago but the volume has increased," said Ciota. "[The sub-prime fallout] made us busier. We had to raise more funds to satisfy loan demand. We've raised about US$270bn since last July 1 through the first quarter, but we still use the same means to access the markets. The FHLB are a Triple A issuer, and investors have been understandably supportive." The FHLB' own exposure is limited. The assets on its balance sheet comprise 69% (at Q1 2008) secured lending business; 24% proprietary investments; and the remainder in its mortgage portfolio – around 7% its assets – all fixed rate out to 30 years. With an average LTV of around 68% and an average FICO of 740, they are not sub-prime. "In 75 year

It was a busy Spring for Merrill Lynch, which issued more than US$25bn of long-term debt in April and May in US and Canadian dollars, and sterling, at tenors ranging from two to 30 years. Among the issuances were a US$7bn two-tranche; five and 10-year senior notes; and a £850m 10-year – its largest-ever sterling offering. But its flagship offering of the year to date was a US$9.5bn deal in April when it shrugged off near historic wides to raise US$7bn from institutional and US$2.55bn from retail markets, paying more than 300bp for five-year and 10-year money. Having been absent from the market since January, a sizeable transaction was universally expected as it looked to bolster is liquidity perception. Even so, the second-largest of the year – after General Electric’s US$8.5bn issue a week earlier – was an impressive showing. Between the Mays of 2007 and 2008 the bank had issued just over US$45bn according to Thomson Reuters data. Most of its deals – but not all – were led by Merrill Lynch itself: a number of euro-denominated bonds led by HypoVereinsbank and Unicredit Banca Mobiliare, issued in May, June, August and September last year, worth just over €1.5bn, among the exceptions. (It also joint-led a number of deals with the same banks.) There have also been issues in yen. But arguably equity is an investment bank’s most precious commodity – one that has been difficult to preserve against a backdrop of deterioration of both economic and credit conditions globally. During the first two months of his tenure as CEO of Merrill Lynch, John Thain raised US$12.8bn of equity through two separate transactions: a US$6.2bn sale of common stock in December at US$48.00 – a 14% discount to Temasek Holdings and Davis Selected Advisors; and, in January, another US$6.6bn from the sale of mandatory convertible preferred stock to sovereign wealth funds Korea Investment Corporation, Kuwait Investment Authority and Mizuho Corporate Bank – a long-time strategic partner. The strategy was to overcapitalise by sourcing liquidity from long-term investors at a fixed price. “We were very deliberate in raising more capital than we lost for the year, so that we will not be going back into the equity capital markets,” said Thain on the firm’s fourth-quarter earnings call in January. Comprising almost one-third of its outstanding share base, the equity was designed to offset the US$12.3bn of net income losses incurred in the second half of the year, including US$24bn of valuation write downs. The aim was to avoid a credit downgrade by reducing leverage, which had risen from the 20-times range from 2000–2005 to 25.5-times by the second quarter 2007 and to almost 30-times by year-end. Shrinking the balance sheet while simultaneously selling equity was made all the more difficult by continued write-offs. After reporting a US$2bn first-quarter loss in April, leverage had fallen to 23.8 but questions remained over the liquidity. The results included US$3.1bn write-down for securities held for sale and a direct hit to shareholders’ equity. The bank had intentionally postponed funding its 2008 capital budget as it waited out volatile credit markets: five-year CDS on the bank gapped in March to as wide as L+335bp – 200bp wider than at year-end 2007 – but had tightened to L+175bp by April. Throughout, Merrill’s management remained committed to not selling additional common equity – in part due to the conditions of the original equity financings, which would require compensation for existing investors if it raised more than US$1bn from the sale of stock at prices below US$48.00 and US$52.50, prior to January 2009. The alternative was a retail-oriented, US$2.55bn sale of 8.625% perpetual preferred equity, priced in late April. The security ordinarily receives 100% equity treatment from ratings agencies, subject to a 25% cap on the composition of preferred/hybrid securities in its capital base – the Fed allows up to 50%, so it is positioned for a Basel II regulatory