Where do you CEE yourself?
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Where do you CEE yourself?

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Central and eastern European sovereign bond issuers can more and more rely on rates investors to come into their bond deals. But many of these borrowers are still handled by investment banks’ emerging market teams. So when is an issuer SSA rather than EM?

William Shakespeare may have said that a rose by any other name would smell as sweet, but the same cannot always be said for sovereign borrowers and their market labels. “The distinction between SSA [sovereign, supranational, and agency] and EM [emerging market] is important to sovereign issuers,” says Susan Barron, head of CEEMEA DCM/RSG at Barclays in London. “It’s about creating a natural path to support investor diversification and development that they target. For example, an EM issuer could consider themselves more in line with other sovereigns than what are considered to be their EM peers, from a credit fundamental perspective, and they would like the market to recognise them as such.”

But for some of these issuers, the divide between emerging and developed market status is one to be decided by the investor base.

“Making this distinction seems to be a bit artificial,” says Piotr Nowak, Poland’s deputy minister of finance in Warsaw. “Nowadays each credit is analysed by investors on a case by case basis. However, inclusion into EM or DM [developed market] indices does matter for some.”

Such indices are part of the tangled web of definitions for what exactly constitutes an emerging or developed market issuer.

Take JP Morgan’s longstanding and popular Government Bond Index (GBI) Global, which tracks developed market issuers. Aside from Sweden, it includes no European country whose capital is east of Berlin — but does include Italy and Spain, with weightings of 6.9% and 3.89%, respectively.

Does that mean Poland, which is included on JP Morgan’s flagship EM local market product, GBI EM Global Div, should be considered an emerging market? If it does, then the other evidence does not stack up.

During the second full week of January, Poland and Spain each printed 10 year euro benchmarks, for €1bn and €9bn respectively. While at different ends of the size scale, Poland’s deal was priced at 65bp over mid-swaps — 40bp tighter than Spain’s. That was also with Spain, unlike Poland, benefitting directly from the European Central Bank’s public sector purchase programme.

Additionally, at that time Poland was rated A2/A-/A- (S&P has since downgraded it to BBB+) while Spain was (and still is) rated Baa2/BBB+/BBB+.

But, as Poland’s Nowak points out, what matters is not so much what credit rating agencies believe but how investors view a credit. That makes it much more likely that borrowers such as Poland, along with the likes of Lithuania and Latvia, are becoming more and more like their SSA peers, as traditional rates buyers increasingly access their paper.

“The simplest way to categorise sovereigns is looking at the majority of investors that support their deals,” says Lee Cumbes, head of public sector, DCM/RSG EMEA at Barclays in London.

“Some of them are clearly developed or clearly emerging market but some can be in transition in the middle. Rates investors can care more about liquidity, concentrate on relative value, the shape of the curve and macro influences on interest rates. EM investors will need to work much more on the individual credit story.”

DECIPHERING THE INVESTOR BASE

The investor breakdowns for the deals from Spain and Poland are also similar. The portion sold to banks was 59% for Poland versus 38% for Spain, to fund or asset managers 27%/37%, to central banks and official institutions 8%/7% and to pension and insurance 6%/11%. Hedge funds and others made up the rest of the investors in Spain’s deal.

“As evidenced by its recent deals, Poland is moving towards rates,” says Barclays’ Barron. “A similar trend is evident in more recent primary market deals from Latvia and Lithuania which are both single-A rated, while their respective secondary trading levels also interest traditional rates buyers as EM investors continue to look for the opportunity to get a bit of yield.”

Given the relative sizes of Spain and Poland’s deals, it’s clear that Spain got much more demand of each investor type than Poland. Except, perhaps, one type.

“In the case of Poland, two years ago there was a roundtable published by GlobalCapital, where we and DCM bankers discussed this issue,” says Poland’s Nowak. “The conclusion was that the old way of defining EM doesn’t fit Poland, but we retain the benefit of attracting also a lot of EM investors.”

BEST OF BOTH WORLDS

Some banks, such as Barclays, attempt to address this grey area between developed and emerging markets with how they set up their businesses.

“We don’t strictly categorise issuers to suit ourselves,” says Barclays’ Cumbes. “From the early stages and throughout the eurozone sovereign crisis, we learned that it was not useful to think of developed market sovereigns as a permanent, distinct bucket, then a distinct EM sovereign bucket, and we even needed a more open mind around traditional credit buyers or other sorts of investor.

“If there had been an idea that western European sovereigns existed in a homogenous rate range with a couple of basis points’ difference between them, [then] that idea exploded.”

Cumbes adds that, with sovereigns moving so quickly across the rating spectrum — Spain, for instance, moved from triple-A across the board in 2009 to fully triple-B by 2012 — using distinct buckets would mean missing out on sources of demand.

“We merged the range of our sovereign syndicate teams at an early stage to make them more flexible, so that we could recommend which investors might be best for a specific sovereign in a certain situation,” he says.

“The investor base can also change depending on whether an issuer is printing in euros or dollars. It’s about doing what works for the client and the market at that time, not forcing something on issuers that fits for you as a bank.”

DISTINGUISHING FEATURES

While several SSA DCM bankers spoken to for this article agree that there are some CEE sovereigns that are still heavily EM — such as non-EU accession countries — not all feel that those that have joined the EU or the eurozone are blurring in with their counterparts in the West.

“There’s obviously an improvement in spread for these issuers, and investors are looking for diversification and more yield so are going into asset classes that in the past they’d have been less willing to, but I don’t see the lines are that blurred,” says a head of European DCM.

“There’s a clear definition between traditional SSAs and others. Even if investors decide to change what they want to buy and how much, getting credit approval doesn’t happen overnight.”

The DCM head cites the example of Portugal — which pays the highest spread over Germany of any western European sovereign other than Greece — and Lithuania.

Lithuania has superior ratings and spreads to Portugal and it also sold a €1.5bn dual tranche bond in October that bankers on the deal said was dominated by rates rather than emerging markets buyers.

But that does not tick enough SSA membership boxes for the DCM head. “Portugal has clearly suffered but it is a large, prolific issuer that has accessed the markets for many years, has an established primary dealership set-up and has more of a history,” he says.

“I see the arguments, but the quantum of debt outstanding, investor base and years of marketing and investor diversification that Portugal and many others have participated in makes them slightly different. Regardless of ratings and yields, and with no disrespect to any other issuer, investors see Portugal as a core issuer in terms of its approach and its primary dealer set-up.”

Privately, other SSA DCM bankers see differences between true SSAs and some of the upcoming credits — in particular one difference that can hit investment banks at a time when they are struggling to make profits from their public sector offerings.

“About 10 years ago, when you did a deal for an emerging market sovereign there was a lot of swapping and you could make an awful lot of money from that,” says a head of SSA DCM. “So all the banks aggressively drove down fees, making them typically lower than for core sovereigns. Couple that with the deal sizes being smaller, and the fees are sometimes a fraction of what would be considered normal fees.

“The days of making money on the swaps are long gone, but the fees are still low. You’d think if some of these issuers wanted to be covered the same way as any of the other major sovereigns then they’d be willing to conform.”

AGREEMENT (SORT OF)

In general, everyone spoken to for this piece agreed that the investor base decides exactly what is a developed and what is an emerging market issuer. But perhaps it is best to ignore such labels and consider the idiosyncrasies of issuers — and of the bankers themselves.

“Relationships with individual bankers are also important,” says Cumbes. “A lot of banking is about trust so that makes sense. But to get the best service, you then need to be very effective in pulling information from different areas of the bank.

“Take Poland — it is a frequent issuer and has a very well developed and impressively organised primary dealer system. Will that issuer require the same coverage skillset as a lower rated sovereign that only visits the market once a year, sends out requests for proposals and behaves in a completely different manner? It’s two different situations.”

Poland’s Nowak agrees. “People matter, not labels,” he says. “We used to deal with both SSA DCM and EM DCM — it varied from bank to bank. Over recent years more and more moved Poland to SSA desks. But what we care about are good relationships with people who co-operate with us. Titles are not really important.”

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