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Capital Markets Weekly: Reference rates continue rising – but issuance continues to show durable demand

26 April 2022 Brian Lawson

In the last two weeks, debt markets have absorbed several EM sales, sizeable amounts of multi-tranche corporate debt including a large junk-rated package, alongside a new quarter's heavy supply of US banking sector borrowings. This continuing deal flow was completed successfully despite US 10-year Treasury Bond yields closing at 2.94% on 19 April, according to St. Louis Federal Reserve data, their highest level in three years, up over 50 basis points in April and almost double their 1.52% level on 31 December 2021. Sri Lanka's default had a negligible impact on wider emerging market spreads: by 21 April, 12 of 18 EM countries studied showed narrowing spreads over US bonds during April.

Sri Lanka default

Sri Lanka has declared a "temporary" default on its international liabilities. On 12 April it announced that recent events "have eroded Sri Lanka's financial position" and that "continued normal servicing of its external public debt obligations has become impossible". It currently faces debt repayments in 2022 worth some USD4 billion, over double its foreign exchange reserves. It will seek an IMF program to help it restore debt sustainability and notes that "a comprehensive restructuring" will be required on the USD51 billion aggregate outstanding international debt. Sri Lanka previously asked China in January 2022 for relief on its official borrowings.

Emerging markets

Counter-balancing Sri Lanka's debt distress, there have been several recent emerging market successes:

Angola raised USD1.75 billion of 8.75% 10-year debt that was more than twice subscribed. By comparison, Angola sold USD3 billion of 10 and 30-year bonds in November 2019 with the 10-year portion priced at 8%. It plans to repurchase up to USD750 million of existing debt due in 2025 and 2028.

Republic of South Africa undertook a USD3 billion bond sale on 11 April, split between 10 and 30 years, with the two tranches priced at 5.875% and 7.3%, covering its budgeted external borrowing needs for 2021/22. The two tranches were priced at spreads of 309 and 447 basis points over comparable US Treasury bonds, 37.5 and 45 basis points inside initial price talk after total demand reached USD7.1 billion. South Africa paid similar margins on its 10-year debt in prior issuance in 2019 while still enjoying an investment-grade rating.

Additionally, Croatia placed EUR1.25 billion of 2032 debt with a 2.875% coupon, priced at 150 basis points over mid-swaps. Demand for the issue reached EUR2.3 billion, with pricing tightened 15 basis points against initial guidance. In March 2021, as a comparison point, Croatia had sold EUR1 billion of 2033 liabilities at a yield of 1.257%.

Other debt

The Financial Times on 16 April reported that the global stock of negative yielding bonds has fallen to USD2.7 trillion from USD14 trillion in mid-December 2021. Our analysis of prevailing yield curves shows that the remaining total includes one-year German debt - which yields -0.35%, versus -0.66% a month previously - and Japanese debt out to four years. The FT article stated that negative-yielding Eurozone debt now stands at some USD400 billion, versus USD7 trillion in December, highlighting that 80% of the residual global stock now involves Japanese debt securities.

Following their latest quarterly releases, US banks have issued heavily. Morgan Stanley raised USD7 billion of three (non-call two) year fixed and floating rate debt, along with six and 15-year liabilities, the latter on a subordinated basis. Wells Fargo raised USD6.75 billion, including a USD3.25 billion 31-year (non-call 30year) bond priced at 4.611%. JP Morgan issued again, its third debt package this year, raising USD8.5 billion from a four-part sale comprising four year fixed and floating rate debt, six year and eleven-year bonds, all callable one year prior to their respective maturities. Bank of America also was heavily active with a USD2 billion Additional Tier 1 perpetual deal, priced at 6.125% versus 6.25% area guidance. It then returned to the markets with a Euro and sterling package worth over USD4.5 billion equivalent. It placed EUR1.75 billion each of 4.5 year and 11-year bonds and GBP600 million of nine-year bonds (each callable one year ahead of maturity) and followed this with a USD8.75 billion four-part deal comprising fixed and floating rate three-year liabilities, six and eleven-year debt.

Both TSMC Arizona and Cargill raised four-tranche debt sales on 19 April. TSMC placed USD3.5 billion in a package of five, seven, 10 and 30-year bonds, with the ten and 30-year tranches priced at 4.282% and 4.514%, margins of 135 and 150 basis points over comparable US treasuries, and 20 and 25 basis points tighter than initial guidance. Cargill's package of three, five, 10 and 30-year bonds was for USD2.15 billion, with its long bond bearing a 4.375% coupon.

VICI Properties, a sub-investment grade rated real estate investment trust which manages gaming and entertainment properties sold a five-tranche package of senior debt with maturities in 2025. 2028, 2030, 2032 and 2052, with coupons ranging from 4.375% to 5.625%.

On the same day (20 April) CSL, an Australian biotechnology firm and vaccine manufacturer, sold USD4 billion in debt in a six-tranche offering, spanning five, seven, 10, 20, 30 and 40-year terms with coupons ranging from 3.85% for five years through to 4.95% for 40 years.

Lockheed Martin also arranged a multi-tranche financing, a three-portion sale worth USD2.3 billion spanning 10, 30 and 40 years.

CNOOC, China's state-controlled energy firm, enjoyed a strong start to trading on the Shanghai Stock Exchange. Its shares opened on 21 April 44% above their issue price of CNY10.8 each and closed with first day gains of 27.7%. The deal raised CNY28.02 billion (USD4.36 billion), a sizeable amount, but proceeds fell short of prior market expectations: the deal had been launched in early April seeking up to USD5.1 billion. One likely factor for this was that initial price guidance had represented a premium to the company's outstanding quotation on the Hong Kong Stock Exchange according to Nikkei Asia.

Our take

Continuing high inflation and worsening reference rates in major markets have been an ongoing feature during the Russia/Ukraine conflict, pushing global policymakers to tighten their monetary stance to mitigate price increases. In turn, this is increasing debt-sustainability risks for weaker borrowers, through increased borrowing costs - even though spreads have in many cases proved relatively stable.

Continuation of this trend - which is relatively likely given a hardening policy stance - would increase the challenge faced by weaker emerging market borrowers, notably those with heavy indebtedness which are net importers of food and energy - in keeping their borrowing costs at sustainable levels. Nevertheless, emerging market spreads do not point to widespread immediate market concern. Of 18 countries studied, only five showed a widening in their EMBI+ spread indices during April (up to the close on 20 April), with one unchanged: the others reviewed all tightened marginally.

Counterbalancing this, supply this week continues to show an impressive range of borrowers raising sizeable deals, including a diverse selection of corporate multi-tranche sales including a USD5 billion sub-investment grade package. Such issuance confirms that while conditions have deteriorated, markets are not undergoing widespread dislocation and retain appetite for a broad range of risks.

Looking forward, we will continue to monitor emerging market spreads closely, looking for deterioration affecting weaker credits, which - when combined with higher base reference levels - could bring countries' borrowing costs to unsustainably high levels. We will also look for downsizing and delay to planned EM issuance, which so far in 2022 applies in Bolivia and Laos (which postponed a planned debt sale several times in 2021) but generally not elsewhere, shown most recently by the debt sales by South Africa, Angola and Nigeria, along with Samurai sales by Philippines and Egypt. Lastly, the most obvious and acute indicator of debt distress would be moves towards rescheduling, where Sri Lanka has been this year's most significant casualty, howbeit after facing growing and persistent pressure through 2021.

Posted 26 April 2022 by Brian Lawson, Senior Economic and Financial Consultant, Country Risk, S&P Global Market Intelligence

This article was published by S&P Global Market Intelligence and not by S&P Global Ratings, which is a separately managed division of S&P Global.


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