The German schuldscheine market has been a sector that German investors have turned to with clockwork regularity. The flexibility and simplicity of the documentation has been borne out of a long tradition of trust between borrower and lender. Non-German investors are getting interested too, but as one of the most insular markets in Europe its attraction is limited. It is very difficult to analyze schuldscheine statistically - the trades are kept private and are not marked to market. But Ted Lord, global marketing head for schuldscheine and covered bonds at Barclays Capital, thinks it is a market worth taking seriously. He says: "It is hard to get accurate figures, but with a steady stream of issuers from Germany, sovereigns doing regular trades and the very busy bank sector, its size could easily be around the euro1 trillion ($864.82 billion) mark." Although German issuers dominate the schuldscheine market, many foreign borrowers also use schuldscheine. SNS Bank, from the Netherlands, did euro450 million-worth of schuldscheine business in 2000. And Spanish, Italian and Austrian issuers are also getting involved. The deals are quick and easy to manage and count as loans rather than bonds. But Hans-Joachim von Hanisch, head of MTNs at Westdeutsche Landesbank (WestLB), believes there is another reason for their popularity. He says: "One aspect of the schuldscheine market that attracts issuers is the fact that they know who the investor is. It helps with forming a business relationship, and lots of issuers trade with the same investor several times as a result." Some dealers may feel threatened by the possibility of deals being done between issuer and investor directly, but Bas Snijders, head of funding at SNS Bank, is adamant that this does not happen at SNS. He says: "We have a policy to never call the end investor ourselves. We always look to do deals through a dealer. We count on the efforts of dealers in the schuldscheine market just as we do in the MTN market." Other issuers do not place much importance on which instrument they use. Martin Schrader, finance co-ordinator at Erdolbevorratungsverband (EBV), says: "We fund ourselves opportunistically. The cheapest product is what we want. It just so happens that schuldscheine is cheapest at the moment, but this can change quite often." Investors are more certain of what they want. Chris Jones is a senior MTN trader at Deutsche Bank, and also covers schuldscheine. He says: "Some of the biggest buyers of schuldscheine are the German insurance companies. They have a strong preference for this market because they are not subject to mark-to-market rules as bearer bonds are." This means that come year end any risk of depreciation is avoided. Schrader, at EBV, cites the German Hypothekenbanks as being very active investors in schuldscheine for this reason too, but Germany's unique hold on the market may be coming to an end. As European investors look for higher yields, structures are used more often. And Jones, at Deutsche Bank, points out that the guarantees investors receive in Germany are a big incentive. He says: "German law is designed to be very protective of the investor under the schuldscheine agreement. Highly structured deals have to be drafted very carefully." Britta Schmidt is a trading manager at HSBC Trinkaus & Burkhardt (HSBC), and she says that foreign issuers now make up about 30% of the schuldscheine market. Investors could follow the issuers they use in other markets into schuldscheine. Lord, at Barclays Capital, says: "Recently we have seen some sporadic buying from non-German investors, such as Irish investors that are subsidiaries of German banks, and also from French funds." But it is a development that many of the market participants find hard to swallow. There are a number of factors that make it easier for a non-German investor to look elsewhere. Structures do not yet play a big role in the schuldscheine market - one in five trades is structured compared to three in five in the MTN market - despite the guarantees. And foreign investors are normally reluctant to get involved in an instrument under a foreign law. Cross-border deals will always have to compete with the MTN market too. Von Hanisch, at WestLB, says: "Cross-border deals will be done via an MTN programme 90% of the time." But the biggest draw-back to schuldscheine is the lack of liquidity. Despite being a German insurance company subsidiary, BfG Investment Fonds (BfG) steers clear of the schuldscheine market. Roger Schneider, head of fixed income at BfG, says: "We prefer to use other instruments because high liquidity just isn't there in schuldscheine." And Schmidt, at HSBC, says: "Foreign investors are rarely interested in schuldscheine because they don't use a buy-and-hold strategy like the German investors. They need a guarantee that if they want to get out of the market someone will be there to take the paper. The illiquidity of the schuldscheine market makes this quite difficult." Dealers say the only way foreign investors could be enticed is through generous structures. Lord, at Barclays Capital, says: "There is competition from the Pfandbrief sector, but when the vanilla market is slow structures will always be popular."
June 01, 2001
