Capital Markets Weekly: Debt markets indicate limited fallout from potential Fed tightening plans

Emerging markets

Panama is meeting local and international investors marketing a new 2031 dollar-denominated issue. The country is authorized to sell up to USD2.5 billion to meet 2021 budgetary needs and conduct liability management through the sale of fixed-rate debt of up to 15-years maturity.

Mongolia is also reported to have mandated banks and started marketing for international debt. There are also reports that Laos might be preparing another attempt to raise international funding, after several prior failures to complete issuance.

Turkish beverage firm Anadolu Efes arranged a benchmark seven-year dollar deal after the marketing of investors started on 21 June. Initial guidance was set at a low 4% area, with the deal pricing the same day at 3.5%. The company is rated more highly than Turkey itself, with 55% of its 2020 EBITDA sourced from Russia and Kazakhstan. The transaction is linked to a cash tender for USD500 million of 2022 bonds.

It was followed by Turkish Eximbank. Turkey's state export credit agency raised USD750 million for five years at 5.875%, sharply inside the initial guidance of 6.5% area.

Kuwait Finance House, an Islamic bank in Kuwait, sold Additional Tier 1 perpetual liabilities first callable after five years at 3.6%, versus 4% initial guidance. The issue was in sukuk format.

Two Latin American borrowers are seeking international funding. Mexican auto parts producer Grupo Nemak is marketing a USD500 million 10-year sustainability-linked bond linked to greenhouse gas emission levels, while XP Inc., a Brazilian-based investment manager, is seeking a debut three and five-year financing.

ESG

IFR reported that 2021 Green Bond issuance has reached USD240 billion according to Refinitiv data, close to the full-year level for 2020, and almost treble issuance in the comparable period of 2020 when social bond sales took greater prominence.

Slovenia undertook a debut sustainability bond on 23 June. It placed EUR1 billion of 10-year debt at 0.17%, with demand exceeding EUR8.4 billion. Over 200 accounts participated: 47% of allocations went to asset managers and 35% to banks.

Bayfront Infrastructure Management, a Singapore-based institution that offers investors access to Asian infrastructure-related debt, has organized the region's first sustainable CDO. It placed a USD401 million CDO including a USD120 million sustainable tranche, with the package including 27 project and infrastructure loans from 13 countries, of which USD184.8 million were green or social assets. Just over one-quarter of the portfolio of loans being secured were for renewable energy.

French real estate investor Gecina launched a 15-year Green Bond and announced its intention to redeem its 2% 2024 issue, of which EUR377.8 million is outstanding. The firm has reclassified its outstanding debt as Green, with the new offering its first since the reclassification. It placed EUR500 million at 0.875%.

UBS arranged a EUR500 million five-year issue and a CHF250 million seven-year deal, both in Green Bond format. The issuance was conducted under the bank's newly established Green Funding Framework, which specifies an eligible asset pool of energy-efficient mortgage loans. Italy's Unicredit is also planning a Green Bond debut sale shortly.

French electrical utility Engie has sold a EUR750 million perpetual non-call 10-year Green hybrid, pricing the deal to yield 1.95%.

Virgin Media O2 arranged its first issue since its merger, a GBP1.13 billion equivalent high-yield package in Green bond format denominated in sterling and US dollars.

Other debt

Following the EU's successful Next Generation EU ten-year sale last week, the Kingdom of Spain sold a new syndicated offering at this maturity.

It raised EUR8 billion with an order book of EUR74 billion. The issue was priced eight basis points over Spain's outstanding 10-year 0.1% April 2031 issue, versus initial price talk of a ten-basis point spread. The offering priced at 0.542%, versus 0.114% for its January sale.

Bank supply remains strong:

On 21 June JP Morgan raised USD2.5 billion of four-year non-call three-year debt, of which USD2 billion was priced at 0.969%, 50 basis points over US Treasuries (and 15 basis points inside guidance). The remainder was a SOFR-linked FRN. On the same day, Scotiabank raised USD2.15 billion of two, five, and ten-year bonds, with the longer tranches priced at 1.366% and 2.164%, each 17 basis points inside guidance at spreads of 48 and 68 basis points over Treasuries.

It was followed by Standard Chartered, which sold USD1.25 billion of 11-year debt, callable after 10 years, at 2.678%, 120 basis points over comparable US Treasuries, and 25 basis points inside initial guidance.

Banco Santander raised a EUR1 billion eight-year (non-call seven-year) Green issue priced at 0.671%, 78 basis points over mid-swaps versus initial guidance of 105 basis points. Demand exceeded EUR2.5 billion. The bank also issued in US dollars, placing USD1.5 billion of three-year bonds at 0.701%, 45 basis points over comparable US Treasuries, and 20 basis points through guidance.

NatWest issued USD750 million of perpetual non-call 10.5-year Additional Tier 1 debt, priced at 4.6% versus initial price talk of 5.125%. The issue further strengthens the bank's capital base, which stood at an impressive 18.2% for CET1 capital in its latest Q1 2021 results.

On 22 June, Vattenfall arranged a rare sterling hybrid bond, placing GBP250 million of 62-year non-call seven-year debt at 2.5%.

Ford Motor Credit - which is now junk-rated - placed USD1 billion of 10-year debt at 3.625%, versus initial price talk of 3.875% area. The size and pricing suggest limited adverse impact from its sub-investment grade rating.

By 18 June, according to the Financial Times using Refinitiv data, 377 sub-investment grade firms have raised USD277 billion in the US junk bond market. This represents a "record pace", 60% above comparable issuance in the same period of 2020.

Implications and outlook

The latest FOMC minutes have increased market concerns that the Federal Reserve might bring forward policy tightening, although Governor Powell subsequently has indicated that recent inflationary pressure is still expected to prove temporary.

Despite some fluctuations in longer-dated dollar bond yields, this week's calendar shows there are no signs so far of a "taper tantrum" involving widespread efforts by market participants to reduce risk exposures.

After severe market dislocation in 2013 when the Federal Reserve first suggested it would taper its post-2009 asset purchases, it (and other major central banks) have worked continuously thereafter to provide financial markets with advance warning of their intentions. Based on our understanding of the Fed's current approach, we expect that it will continue to use its "dot plot" as an early indicator of likely US policy direction and timing, with ample public discussion of potential policy change. It is thus unlikely there would be a sudden "shock move" that would lead to market disruption and temporary cessation of primary bond issuance, developments monetary authorities wish to avoid.

That does not imply that conditions will remain favorable for all issuers going forward. Faster moves to reduce central bank purchases would reduce the current heavy support for bond markets. The prospect of rising US rates will remain a potential drag on the demand for EM securities given the improved returns they would encourage on alternative investments. A well-established concern previously flagged by the European Banking Authority is the level of market valuation: on pure fundamental grounds it is hard, for example, to justify the negative returns on large parts of the European government bond markets. Without central bank "backstops" in play, there is ample scope for price deterioration.

Counterbalancing this, many emerging market - and other riskier - borrowers have been able to finance over the last year at historically low levels. This provides room for some degree of price reversal without borrowing costs becoming unsustainable.

Overall, IHS Markit expects central banks to be highly sensitive to preserving financial stability, and to calibrate policy action carefully. In Europe, the ECB is on a slower trajectory towards rate tightening than the Federal Reserve, but at some stage we would nevertheless expect a gradual shift in balance away from the need to prompt economic recovery towards a renewed focus on longer-term fiscal discipline. Based on current developments, near-term "taper tantrum" risk currently appears limited. Nevertheless, the outlook over a longer period - of say two years - does carry significant uncertainties and the prospect of tougher issuance conditions ahead.

Posted 24 June 2021 by Brian Lawson, Senior Economic and Financial Consultant, Country Risk, IHS Markit