Brave new world
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Emerging Markets

Brave new world

Borrowers are waking up to a harsh new reality – soaring cost of credit and a loss of bargaining power

By Julian Evans

Borrowers are waking up to a harsh new reality – soaring cost of credit and a loss of bargaining power


The Eurobond market was closed for six months to CEEMEA (Central & Eastern Europe, Middle East & Africa) issuers from October to April. Although some parts of the region are relatively well-insulated from US housing woes, such as resource-rich Russia for example, the Emerging Markets Bond Index (EMBI) still widened by 200 basis points in the fourth quarter of 2007, and investors were wary of further widening. As one banker put it: “They don’t want to catch a falling knife.”

Borrowers were queuing up to issue new deals, with around $50 billion to be re-financed in external debt from the CEEMEA region this year, according to Sergey Sidorov, head of capital markets at Unicredit in Moscow. “The magnitude of the problem was quite huge,” Sidorov says. 

Thankfully, the CEEMEA Eurobond market finally reopened in April with a $1.5 billion dual-tranche deal from Gazprom. The deal had a $400 million, five-year tranche priced at 375 basis points over mid-swaps, and a $1.1 billion, 10-year tranche priced at 387.5 basis points over mid-swaps. Citigroup and Morgan Stanley were lead managers. 

Tijen Taraf, executive director of CEEMEA debt capital markets at UBS, says: “Gazprom was a landmark deal in many ways. It was the first corporate issue from the CEEMEA region for six months. And it was a landmark for the premium it paid, of 85 basis points over its CDS curve. It was a clear signal to CIS issuers who were struggling to come to terms with the premium they would have to pay in the new conditions we are facing.”

Following the Gazprom deal, two other issuers seized the day and managed to price their deals: the Republic of Georgia raised a $500 million, five-year deal, and Halyk Bank raised a $500 million, five-and-a-half-year issue. 

Georgia’s deal had some novelty value for emerging market investors. It was a debut issue for the country, and the sovereign had the advantage of having a slick former investment banker, Lado Gurgenidze, as its newly-appointed prime minister. Gurgenidze, who used to work in ABN Amro’s CIS corporate finance team, led the roadshow for the deal and managed to persuade investors that Georgia is a good investment target, with record levels of FDI and a budget surplus. 

The big surprise

But Halyk Bank’s deal was the real surprise of the quarter. Banks in general, and Kazakh banks in particular, are perceived by investors and analysts as the CIS borrowers most vulnerable to the global credit crisis. Sidorov at Unicredit says: “The problems in Kazakhstan are primarily in the banking sector. It’s quite disastrous there.” 

Kazakh banks have borrowed heavily in the international markets, and used a lot of that money to lend to the once-booming Kazakh real estate sector. But the Kazakh property market has now dropped by 50% in value, while international debt markets have closed for most Kazakh banks. “Kazakh banks need either to dispose of non-core assets or find strategic partners. I wouldn’t be surprised if either Kazkommertsbank or Bank TuranAlem tried to sell off assets in order to find liquidity,” Sidorov says.

Amid these concerns, Halyk Bank showed its exceptional position with its $500 million offer, which was the first issue from a CIS private bank since August. UBS’ Taraf, who worked on the deal, says: “Halyk Bank got its timing perfect. It was right after the success of the Gazprom and Georgia deals. It put a lot of work into its roadshow, going to just about every financial capital. There was perhaps three months of preparation for the deal. And the lead managers had to make clear to investors that we had some big lead orders already in.” 

Investors liked the fact that Halyk Bank is a relatively conservative institution, with a big deposit base and low external borrowing, and the bond was three times oversubscribed in a day. Now, several other issuers are hoping to follow these three to market – steel company Evraz is in roadshow at the time of writing, as are several Russian banks, Bank TuranAlem and other sovereign issuers including Azerbaijan. 

But it is far from business as usual on the Eurobond market. Taraf says: “The three issues we’ve seen so far all came in a small window of positive sentiment, when there was no bad news for about a week. Now the market is much quieter, as it waits for US banks to publish their first quarter results. It’s really a question of waiting for the right moment, and then being able to move quickly.”

Some issuers may not be able to wait for long, because of refinancing requirements. But picking the wrong moment to issue can have brutal consequences – Latvia, for example, issued a E400 million, 10-year offer in February. Gunter Deuber, Eurobond debt analyst at Raiffeisen International in Vienna, says: “The Latvia issue was very poorly received. It wanted to issue an E500 million bond but only managed to place E400 million, and the pricing was not favourable [120 basis points over midswaps]. It was a sign of substantial weakness in the market.”

What can borrowers do to access capital in these difficult conditions? First, they could find a strategic partner who improves their access to capital. For banks in particular, those banks that have shareholders with deep pockets are going to be able to outperform and grab market share in the next 12 months. 

One Kazakh bank, Bank CentreCredit, has already sold a 30% stake to a foreign bank, Kookmin Bank, for $750 million in the first quarter, and we could see other acquisitions in CIS banking, either by foreign banks, or by local banks who are weathering the storm well. 

Alternatively, banks could simply slow down their lending and allow their credit portfolios to shrink. This is what is happening in Kazakhstan. Stephen Cohen, CEO of the hedge fund business at Troika Dialog, says: “The Kazakh banking sector is not going to grow for the next couple of years.” Russian Standard Bank, a consumer lending bank that has borrowed heavily on international debt markets, is also allowing its consumer loan portfolio to shrink at the moment. 

Some hope

However, CIS banks say the situation isn’t completely dire. One consequence of the global credit crunch is that CIS corporates, which are now finding it harder to access international capital, have come back to their local banks, so the corporate loan market has rebounded strongly. 

In general, the CIS syndicated loan market had its busiest quarter ever in the first quarter of 2008, as borrowers look to their relationship banks to get deals done. Bankers say it is possible to find slightly more favourable pricing there, as long as deals are structured correctly. The Russian oil company Rosneft, for example, recently scrapped plans to issue a Eurobonds, and is preparing a $3.5 billion syndicated loan. 

The domestic bond markets of the CIS don’t offer a substantially different picture to the Eurobond market. The main investors in these markets are banks, and they are still following international sentiment, so there hasn’t been significant decoupling in these markets.

Issuers could look at securitization as a way of improving their rating and raising capital either domestically or internationally. But Taraf of UBS says: “We still don’t see much life in the securitization market. Investors in securitization have been more burnt than most, so there’s a lack of appetite for those assets.” 

Erik Berglof, chief economist at the EBRD, agrees: “Institutions that depend on a lot of securitization will suffer now that there is an element of distrust in the system.”

The lack of trust in mortgage securitizations, for example, was illustrated by the fact that the Russian Housing Mortgage Agency had to buy its own recent ruble mortgage-backed securities (MBS) issue, in the hope it would be able to sell it in the secondary market at a more favourable price than it can now find.

However, bankers say the demand for other types of structured products is stronger. Sidorov at Unicredit says: “Public convertible deals are the cheapest way to fund in the existing market. With equity volatility up, you can get a cheaper spread. A lot of corporates are getting used to the idea that convertibles are the best way to get financing.”Government support

CIS governments are doing their best to help banks and corporates to get through the credit crunch. For example, there is market talk of Kazakhstan issuing a $2 billion sukuk, or Islamic bond, which the Abu Dhabi Investment Authority has already said it’s interested in buying. Kazakhstan would use the liquidity to help the banking and real estate sectors. 

The Russian central bank has also tried to help Russian banks by widening the requirements for the type of assets that can be used for repo transactions. It has also lowered the overnight lending rate, and made some emergency loans to two banks – Ursa Bank and VTB – which were facing short-term liquidity problems. And the Russian ministry of finance has widened the group of banks authorized to handle budgetary funds to include the 20 top banks, which analysts say will ease liquidity for the financial system through April, when the banking sector has large tax payments to make. 

But in general, to access the debt markets now, both borrowers and their banks have to work a lot harder. Didier Lambert, emerging market fixed income manager at Fortis, says: “The days when borrowers could dictate the terms of deals and you had no time to do your analysis are over.” UBS’ Taraf agrees: “It’s a buyer’s market now.” 

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