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Capital Markets Weekly: Bond markets indicate exceptionally strong primary risk appetite

22 March 2019 Brian Lawson

Slowing growth prospects and indicators of an easier policy stance from both the Federal Reserve and the European Central Bank have led to highly-receptive, risk-friendly bond markets this week. There has been a rush of emerging market debt supply, with Ghana, Benin, Turkey, Qatar Islamic Bank and Chilean power company AES Gener all issuing on 19 March alone. Later in the week Russia and Brazil also entered the markets. The risk-friendly climate also has led to a rush of bank capital issuance, with four perpetual AT1 deals all strongly received, among other risk-positive indicators (such as very heavy Spanish supply, and strong demand for high yield bonds and loans).

According to its Finance Minister Ken Ofori-Atta, Ghana gained demand of over USD20 billion for a UDSD3 billion three-tranche bond package with average lives of seven, 12 and 31 years. The three tranches were priced at 7.875%, 8.125% and 8.95% respectively. Benin was in the market at the same time, offering a seven-year amortizing Euro-denominated deal - its international debut - with initial guidance of 6.375%, at which it priced. The issue repays in three equal instalments with an average life of six years.

Turkey also entered the market, tapping its 7.625% 2029 deal at price guidance of 7.25% (confirming the improvement in its trading levels in 2019). The latest deal represents Turkey's fourth bond sale in 2019 as it moves quickly to cover its 2019 USD8 billion international funding goal at sovereign level.

Russia launched its annual benchmark deal on 21 March, selling a 16-year (2035) dollar deal with 5.5% guidance and six-year Euro-denominated debt with 2.625% area price talk. It sold USD3 billion at 5.1% and the Euro-denominated tap at 2.375%. The dollar portion enjoyed peak demand of USD7.5 billion, with 55% bought by UK-based investors, 21% from the USA, and only 11% by Russian buyers. For the Euro portion, demand reached EUR3 billion from 135 buyers. 40% went to the UK, 18% to both Continental Europe and Russia, and 17% to the USA. Credit Bank of Moscow also sold USD500 million of five-year loan deposit notes, following its Euro-denominated issue in February, while Russian mining and steel company Evraz is road-showing a five-year dollar offering.

Brazil's entry to the market on 21 March proved unfortunately timed, coinciding with the issue of warrants to arrest former President Michel Temer on alleged corruption charges. Brazil reportedly initially hoped to raise USD2 billion with initial talk of 4.95% area. It actually sold USD1.5 billion at 4.7%, with Latin Finance reporting "heavy demand" for the deal and stating that investors had "shrugged off" the legal developments.

Bank capital securities also have enjoyed "rampant" support, with BBVA, Nordea, BNP Paribas and Barclays all selling perpetual deeply-subordinated AT1 debt. Overall, European banks raised EUR3.4 billion of subordinated debt on 19 March alone, by far the busiest day for bank capital issuance this year. Despite recent market concern over Banco Santander's decision not to call an outstanding AT1 deal at first call, breaching unofficial market convention, BBVA obtained the upper end of the EUR750-1000 million range initially announced, pricing its deal at 6% to first call, versus initial guidance of 6.375%, with demand exceeding EUR2.5 billion.

A further indicator of the strong risk appetite came from KFW, the German state development agency. This priced a EUR5 billion three-year issue at -0.267%. While governments have conducted short-dated bill sales regularly at negative yields, it is unusual for a benchmark non-sovereign term deal to be undertaken, especially in such large volume: as a comparable, EIB sold EUR5 billion of three-year debt in 2016 at -0.147%.

Our Take

This week's heavy emerging market and bank Even prior to Ghana and Benin's debut bond, regional media have claimed that African borrowers had sold USD12.8 billion of international debt, versus the full-year record volume of USD18 billion achieved in 2018. A further welcome feature of Ghana's sale is its extended maturities, reducing refinancing risk.

We are also impressed by the rush of AT1 deals, and the overall risk appetite being displayed in European bond markets in particular. This week's supply from Spain is exceptionally sizeable and has shrugged off the country's pending electoral uncertainties. Risk appetite in the European periphery was further helped by Portugal being upgraded by Standard & Poor's, which moved it one notch upwards to BBB: Portugal's 10-year bond yield has dipped to 1.31%, a five-year low.

KFW's large benchmark at negative yields is a further positive indicator of the favorable climate in European bond markets. It highlights the growing expectation that European bond yields will remain low for longer, and that ECB policy adjustment will be very gradual given the risk of economic slowdown within the EU during 2019. For investors obliged to hold bonds, it offers a clear yield pickup relative to German or French government bonds, which trade at even larger negative returns than the -0.4% available for deposits with the ECB.

This week's calendar is clearly impressive for bonds, and also has shown improvement in terms of primary equity sales, including Levi Strauss's IPO, which was priced above its indicated range and opened at a 30% premium, and the announcement of two sizeable flotations for payment system providers (Italy's Nexi and MENA's Network International). Market sources also claim that Lyft's IPO is already oversubscribed.

Overall, we assess that bond markets are showing greater underlying resilience than equities. Lipper data showed that in the week to 15 March, US corporate bond funds enjoyed their seventh consecutive week of positive inflows, gaining USD3.29 billion of fund inflows. However, a Lipper spokesperson also noted that equity funds experienced net outflows of USD3.4 billion in the period. More interestingly, he commented that holdings of US equity funds have risen USD5 billion within 2019, which is dwarfed by the USD102 billion of net outflows during Q4 2018.

Posted 22 March 2019 by Brian Lawson, Senior Economic and Financial Consultant, Country Risk, IHS Markit

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