The European Central Bank, despite all the damage it has done to the core covered bond market, has accidentally helped the market to develop by forcing investors to consider emerging market covered bonds that many had previously considered off-limits
Until recently survey after survey suggested most covered bond investors had little inclination to buy Turkish deals, or emerging market bonds in general.
But times have changed, and in less than four years spreads have tightened, in some cases tenfold. In September 2012 Santander’s fully owned subsidiary, Banesto, issued a five year deal at 395bp over mid-swaps. Today four year covered bonds issued by Santander trade at a tenth of that level.
Investors know that spreads largely reflect the level at which the central bank is prepared to buy at. So, unless the covered bond buying programme carries on forever, it is likely that at some point in time spreads will reflect fundamental valuations rather than the technically squeezed ones currently on offer.
Faced with a limited availability of high yielding bonds and negative yields in the majority of bonds up to the five year maturity, many investors, who have committed return targets, have been pushed into considering alternatives.
Turkish covered bonds may not meet all the requirements of some regulated investors, thanks to their higher than average capital charge and less favourable treatment in banks’ liquidity buffers, but they are the perfect choice for many real money buyers such as asset managers, insurers and pension funds.
With an order book of €3bn, Vakifbank was unable to meet the swell of demand for its A3-rated €500m five year deal, which came with a mouth-watering 250bp spread over mid-swaps.
The message to other Turkish borrowers is quite clear: drooling investors are salivating at the prospect of your covered bonds so please hurry up and issue.
The BBVA majority-owned Turkiye Garanti Bankasi and Akbank already have similar A3-rated covered bond programmes in place and could in theory move relatively quickly. And assuming these debut bonds go well, it seems likely that other Turkish borrowers like Işbank will follow suit.
The challenge for Turkey’s banks had always been about obtaining a sufficient saving compared to where they could have issued a senior unsecured deal. But with Vakifbank saving in the region of 100bp, it seems these qualms can be safely put aside.
And with the long duration cheap funding that covered bonds provide, issuers should be able to more closely match fund their assets and free up their balance sheets to pursue further mortgage lending. This is good for the Turkish economy and it will help improve banks’ credit profile.
The deal also sends a powerful message to other emerging markets like Morocco, India, Malaysia, Thailand, Brazil and Mexico — who have all been looking at developing a covered bond market.
Investors are ready to buy, the time is ripe, this is an opportunity not to be missed.