The City of London Corporation, via its endowment fund the City’s Cash, is set to enter the US private placement market for the first time. While UK councils are still a rare sight in the US PP market, agents believe they may be a fruitful asset class for the future. Silas Brown reports.
For many years, UK local authorities have been almost entirely absent from institutional debt markets, mostly because of legal constraints and the cheap funding they receive from central government. But change is afoot, and the possibility that councils will raise debt from private investors is growing.
The US private placement market welcomes this prospect. “The right UK local authorities are a clear fit for the PP buyers,” says an investor at a US institution. “Solid credit metrics with business strategies we understand, and in need of long dated cash.”
One such issuer is the City of London. Lloyds Bank and Santander have been mandated to raise private debt for it, according to several market sources, with the deal scheduled to take place in mid-June.
Though the money is not earmarked for a specific project, the Corporation wants to raise £3.4bn ($4.2bn) in the next few years to finance several infrastructure projects, including relocating the Museum of London, refurbishing the historic Guildhall, and moving London’s three wholesale food markets — Billingsgate, Smithfield and Spitalfields — to a new site in Dagenham, Essex.
The Corporation includes the City Fund, the arm responsible for local authority financing, and the City’s Cash, the Corporation’s endowment arm. The City Fund will borrow from the Public Works Loans Board, the arm of the national Treasury that lends to local authorities. The City’s Cash will tap the US PP market.
The tenors of the PP transaction will be fixed during the marketing process, but are likely to be between 10 and 30 years. The amount is also not yet fixed, though one market source said he thought it would be £200m-£300m.
“We’ll see about the specifics when the banks begin marketing,” says an agent in London. “But what I can say is that if this goes well, this won’t be the last local authority to look at private debt.”
Pricing is the issue
According to several market sources, Birmingham City Council, the Greater London Authority and Portsmouth City Council have held discussions with market participants in the last 18 months.
However, there has always been a barrier: the PWLB, which falls under the responsibility of the UK Debt Management Office. It provides 70% of councils’ debt, and lends at attractive rates — at present, 80bp over Gilts.
Up to now, institutional investors have not been willing to price loans to councils more tightly than that.
For example, according to an investor, Birmingham City Council approached US PP investors in 2018, but found the price it could get from the market was much higher than that on PWLB loans. “Everything made sense — credit quality, risk and maturity — until it came to the price,” says the investor.
“It would be a tall order for PP investors to get to that price, unless the local borrower was an incredibly strong credit,” added the investor. He said his institution priced debt for UK universities in the low 100bp area and for private schools in the mid-100s, so councils would be likely priced in that region.
However, those hoping to see more of such lending have some grounds for optimism. Last October, the then UK prime minister Theresa May said housing was the largest domestic policy challenge.
To help address it, she said the government would remove caps preventing local councils from borrowing above certain levels against their housing revenue accounts (HRAs), in which they keep income from tenant rents and services.
“There are a few ifs, but that change could really bolster the chances of financing by the US PP market,” said a US PP agent. “We’re ready for the challenge. We’ve been analysing UK housing and education for some time, which aren’t dissimilar credits.”
Another PP investor, who says he has been keen on UK council funding for a long time, says: “What we need is one headline deal for other councils to notice of US PPs as a viable funding alternative, but also for North American investors to take this growth prospect seriously.”
The City of London, despite the borrowing being done by its endowment fund, might just be that headline deal.