Less than 12 months ago, some gloomy commentators were predicting virtual Armageddon for the economies of southern Europe. Some even argued that the eurozone was on the verge of disintegrating, with Greece named by some doomsters as the most likely candidate to abandon the experiment of monetary union.
What a difference a year makes. Perhaps the most striking way of illustrating how much conditions have changed in southern Europe is to compare the benchmarks launched by Greece in January and November.
At the start of 2009, having just been downgraded by S&P from A to A-, Greece printed a €5.5bn five year syndicated benchmark at 260bp over mid-swaps, a spread described by bankers at the time as resembling levels paid by emerging market borrowers. In November, by contrast, when Greece tapped the 15 year market for the first time since 2006, it amassed a book of €11bn at 142bp over mid-swaps — despite fears that the eurozone’s weakest economy was contracting faster than expected.
With investor sentiment towards the four sovereigns in Southern Europe — Spain, Portugal, Italy and Greece — having improved beyond all expectations in 2009 despite economic fears, EuroWeek’s roundtable looks back at how their funding strategies have unfolded this year.
The discussion also looks ahead to the challenges and opportunities that await these borrowers in 2010.
Participants in the roundtable, which took place in November, were:
Gonzalo Garcia Andres, head of funding and debt management, Spanish Treasury
Greg Arkus, head of sovereign, supranational and agency capital markets, Credit Suisse
Maria Cannata, director general of public debt, Ministry of Economy and Finance, Republic of Italy
Myles Clarke, joint global head of the frequent borrowers group, RBS
Frédéric Gabizon, head of eurozone public sector debt, HSBC
Kiso Kentaro, head of MTN syndicate and EMEA public sector group, Barclays Capital
Stuart McGregor, head of EMEA public sector origination, Bank of America Merrill Lynch
Spyros Papanicolaou, director general of Greece’s Public Debt Management Agency (PDMA)
Alberto Soares, chief executive, Portuguese Debt Agency (IGCP)
Sean Taor, head of SSA syndicate, Barclays Capital
Moderator: Phil Moore, contributing editor, EuroWeek
EUROWEEK: Let’s start by looking at the outlook for total issuance in 2010. Italy will once again have a high funding requirement, with some estimates suggesting gross issuance of as high as €270bn. Does this tally with the Ministry of Finance’s estimates?
Cannata, Italian Ministry of Economy and Finance: Those estimates seem rather excessive to me. We expect more or less €255bn of medium and long term gross issuance in 2010, with a net requirement of €80bn. The main drivers of that issuance are the normal flow of redemptions.
Soares, Portuguese Debt Agency (IGCP): The originally announced size of our gross issuance of medium and long term bonds in 2009 was between €11bn and €13bn. Year to date, we have issued a total of €14.5bn, so we are already above the original forecast.
As far as our funding requirement for 2010 is concerned, the new government has just come in and won’t announce its budget until next year. So although we have an approximate idea we don’t yet have an exact figure for our financing needs in 2010. However, in proportional terms we don’t expect a very large increase. In terms of its size, our funding requirement is not comparable with some other sovereigns in the eurozone.
Papanicolaou, PDMA: So far we have raised about €66.5bn, which is a much higher amount than in previous years. We started with a figure of between €42bn and €43bn, which included redemptions and coupon payments.
In terms of next year’s requirement, we will of course unfortunately continue to have a high deficit in 2010. So although I don’t yet know the exact figure, our total borrowing will be more than we originally projected. But whether that will mean a funding requirement of €50bn or €60bn I don’t yet know. I hope that total will be lower than it was this year.
Garcia, Spanish Treasury: Our outlook for next year is based on the draft budget law that was presented at the end of September and is now making its way through parliament. This determines that our net funding need for 2010 will be €76.2bn.
Of course 2009 was an exceptional year for everyone. The budget plan drawn up in 2008 was soon outdated. But there was even a slippage in the January projections, which were adjusted to take into account the economic circumstances at the start of the year.
Our impression is that our total issuance in 2010 will be much closer to the budget estimates than it was in 2009. We are aware that we continue to be in a very volatile environment and we need to be ready for changes as they arise. But the budget is our baseline and the assumption we’re dealing with.
The main driver of issuance in Spain is the cyclical deficit. The impact of the recession on public finances has been very severe over the last year, leading to increased outlays on unemployment benefit, for example. On the other hand, 2010 will not be as bad a year for tax receipts as 2009. Unlike some other countries, the government has already decided to table a relatively restrictive budget in the sense that there will be some moderate tax hikes for next year which will yield some revenue.
EUROWEEK: Presumably the net funding figure for Spain in 2010 does not include issuance by the newly created Spanish Fund for Orderly Bank Restructuring (FROB)?
Garcia, Spanish Treasury: That’s correct. FROB has guarantees from the budget of €27bn in 2010, although its total issuance will depend on how the process of restructuring in the savings bank sector develops. But FROB is issuing directly. It’s not like the Financial Asset Acquisition Fund (FAAF) where the funding comes directly from the central government budget.
EUROWEEK: On the subject of FROB, Moody’s said at the end of October that even if it were to raise the entire €90bn that it is permitted to raise in its lifetime, that would not exert any downward pressure on Spain’s sovereign rating.
But some of the other Southern European economies have been under more direct ratings pressure. Moody’s changed its outlook on Greece and Portugal to negative in October. The previous week, Fitch downgraded Greece from A to A-, citing the deficit of 12.5% of GDP which was much higher than the agency’s forecast of 6%. How important are credit ratings to borrowers in Southern Europe and to investors in the market?
Soares, ICGP: The timing of the Moody’s announcement was certainly a surprise to us because it came so soon after our general election in September. The new government hasn’t yet had time to put its programme through parliament and it will have a number of important initiatives to announce over the next few weeks, including the budget of course. That will give us all a much more concrete view of the likely fiscal developments in Portugal over the next year or so.
Having said that, the change in the Moody’s outlook has had no impact on our secondary market spreads, which have moved in line with our peers’.
That may be because we have intensified our dialogue with investors this year. Our main aim has been to impress upon investors that Portugal’s credit story is somewhat different from our peers. Although we’ve been affected by the crisis as everyone has been, we haven’t had a real estate crisis, and our banking system has remained robust and well capitalised. Also, several of the measures taken by the government since 2005 in reforming the public finances have started to have a positive effect. So we believe we have a strong credit story to tell investors and so far the feedback we’ve had from them has been positive.
Papanicolaou, PDMA: The strength of demand for our most recent 15 year benchmark speaks for itself. In spite of all the bad publicity that Greece has had, we had a book of more than €11bn. The downgrade from Fitch had no more than a minimal impact.
Gabizon, HSBC: I would agree. All the European sovereign borrowers at large and South European borrowers in particular have had a very successful year both in terms of the volumes they have been raised and the absolute costs of funding they have been able to achieve.
Greece, which has been in the public eye, has been able to achieve amazing results in its borrowing programme in 2009. I think that is a reflection of two elements: first, its position as an EMU sovereign, and second, its willingness to adopt a very proactive and pragmatic approach to its funding strategy.
Taor, Barclays Capital: You need to distinguish between the euro and the dollar markets. In euros, credit ratings are less important because investors accept that the default risk for a European sovereign is very slim. Those investors tend to be more interested in relative value than in ratings. In dollars it is a little different because the investor base is made up more of central banks, which are more sensitive to ratings.
Arkus, Credit Suisse: Ratings are definitely relevant, as most investors have some form of ratings framework dictating what they can and can’t invest in. But perhaps some of the ratings actions that we saw during the recent crisis led some investors to rely less on the ratings agencies and look more to their internal credit research analysts for guidance, especially on relative value.
Clarke, RBS: Looking at the curve, it is clear that the market is ahead of the ratings agencies. So across Europe in general, investors are making up their own minds rather than being led by ratings. We’ve seen two sovereigns falling within the same ratings bracket trade more than 150bp apart. That suggests that investors are using a lot of tools other than ratings to assess relative value.
McGregor, BAML: I agree that relative value is key in the South European markets. We have seen a massive compression in spread differentials as risk appetite has returned during the second half of 2009.
Kentaro, Barclays Capital: South European sovereign borrowers have been very flexible throughout the phase of ratings volatility that we’ve seen over the last year. They have been prepared to accept market rates and pay new issue premiums when required. And they have been rewarded by being able to raise very substantial amounts.
EUROWEEK: Talking about spread compression, have spreads narrowed too far and too fast in the eurozone given the size of some of the deficits?
Gabizon, HSBC: This shouldn’t be seen as a north-south story. Some of the Northern European countries have broken well out of the Maastricht Treaty range in terms of their deficits, but I don’t think the market is very worried about their spreads. Many of the European economies that were thought to be among the most fragile at the start of the crisis have continued to fund themselves very efficiently throughout the turmoil.
If investors had been worried about the fundamentals of weaker rated sovereign issuers, the order books for these sovereigns’ long dated bonds wouldn’t have been so heavily oversubscribed.
EUROWEEK: Moving on to borrowers’ funding strategies in 2009, when Italy launched its €5.5bn 2025 transaction in July, it was its first syndicated benchmark since May 2008. Why was there such a long gap?
Cannata, Italian Ministry of Economy and Finance: In general, we use syndication only for specific kinds of bonds. For example, we use it to launch nominal bonds with maturities of 10 years and more; subsequently we tap them by auction. We also use syndication for inflation-linked bonds.
So it is probably true that in 2009, if the market had been less volatile we would not have waited until July to launch our first syndicated deal of the year. But we did not feel under any particular pressure to issue in syndicated format in the first half of the year.
By July, however, two factors combined to make a 15 year syndication appealing to us. First, the size of our previous 15 year benchmark had reached almost €17bn, and at the same time market conditions had become more normal and less volatile.
We are careful to make sure that we never go to the market with a syndicated transaction if there is not a favourable environment. If you look at the 30 year linker that we launched in October, for example, we waited until there was a favourable issuance window because that was quite a delicate transaction.
EUROWEEK: But has Italy’s attitude towards syndications changed at all as a result of the crisis?
Cannata, Italian Ministry of Economy and Finance: No. We are very comfortable with our balance between auctions and syndications. Only for the more delicate parts of the curve do we use syndications for launching new bonds. But for the large majority of our issuance we continue to rely on the auction system. This year in particular that has been a very efficient method to use.
EUROWEEK: Is cost the main reason for that?
Cannata, Italian Ministry of Economy and Finance: Not particularly. If the auction system is competitive, works well and is more transparent, and allows for more widespread participation it is definitely the preferred way of collecting a large amount of money.
But it is important to understand what investors’ expectations are, where the market sees value in a new bond, and the reasoning that lies behind investors’ and other market participants’ evaluation of fair pricing for a new issue. For all these considerations it can be better to have a more complex process of issuance based on the input of a very small group of highly focused primary dealers. Those dealers help us in our dialogue with investors and make sure we are able to attract the attention of the investors that are most interested in the type of bonds we’re issuing.
EUROWEEK: Where does Spain stand on the syndication debate?
Garcia, Spanish Treasury: I believe our philosophy with respect to syndications is standard and well known by market players. This is that, in principle, auctions are superior to syndications provided you have a balanced team of primary dealers and you pay serious attention to the basics of sound debt management. That means ensuring that you maintain transparent and predictable procedures in the primary market and an efficient and liquid secondary market at all times.
When you follow that approach you inevitably forego some tactical flexibilities. But we have always believed that that is a price worth paying. And paying up for fees in a syndication is also a deterrent. So on balance we believe that auctions are more efficient and cost-effective.
EUROWEEK: But Spain has launched a number of very successful syndicated benchmark issues over the last few years, hasn’t it? I understand that your most recent syndicated deal, which was the €4.5bn 2041 issue in September, generated an order book of €8bn, which you could presumably never have achieved if you had auctioned a long-dated bond?
Garcia, Spanish Treasury: That is true. Of course syndications play an important role in our funding programme, and as you say we have syndicated the first tranches of our benchmark issues of 10 years or longer as well as our dollar deals and the new floating rate note (FRN) that we issued in July. We believe that when we are launching inaugural issues, as well as products where the investor base isn’t necessarily familiar with our credit or with the product, syndications do offer added value. But we have no plans to change our current strategy in terms of the balance between auctions and syndications.
EUROWEEK: Portugal has also been successfully syndicating benchmark issues for a number of years, hasn’t it? What is the ICGP’s attitude towards syndications, and has your approach changed at all over the last year or so?
Soares, ICGP: We see syndicated transactions as being an important approach if you want to generate more direct contact with investors and to increase the profile of your issuance programme.
Our strategy has been to launch one or two benchmarks per year through syndication. We will then build up liquidity in those benchmarks through auctions. This mix has worked well for us in the past and we look forward to maintaining the same approach. We don’t exclude the possibility of considering using syndication more extensively, even for smaller taps. But the key for us is to maintain as much flexibility as possible by combining the two approaches.
EUROWEEK: In terms of the share of syndications in its total funding programme, Greece has made more use of the technique than any other eurozone borrower in 2009. Why is this, and does it represent a long term change in Greece’s funding strategy?
Papanicolaou, PDMA: Our philosophy on the use of syndications is that this should be determined by the market.
In previous years, we raised roughly half of our funding through syndications and the other half through auctions. We determined which parts of the yield curve we wanted to tap through syndications, and after the original issue we generally tapped the deal in order to ensure adequate liquidity in the bond.
Because market and economic conditions were so challenging in the fourth quarter of 2008 and the early part of 2009, we decided to play it safe. We decided to take advantage of the key benefits that syndication offers, which is the ability to exercise more control over pricing of new issues as well as distribution. After all, as you are paying extra fees to your banks you expect them to perform well and to place paper as broadly as they can.
We were also very aware that in uncertain times you face the risk of failed auctions, which as everybody knows happened to some sovereign borrowers with much better ratings than ours.
I’m not sure what our strategy will be next year but I hope we’ll move back to having more of a balance between auctions and syndications.
Arkus, Credit Suisse: Greece adapted very early to the new environment. They announced early that they planned to use the syndicated route for the renewal of the benchmark curve to raise larger volumes and to have more flexibility in terms of timing and price, and to have more control over the allocation of bonds. I think the success of that strategy probably encouraged other sovereigns within Greece’s peer group to make more use of the syndicated route.
Gabizon, HSBC: Sovereigns have been extremely pragmatic in the way they’ve approached the market this year, be it in timing and format. Greece and Spain have been very happy to use more syndications and have recognised that doing so has helped them to promote their credit in a difficult environment.
EUROWEEK: For Greece, what have been the economics of syndications relative to auctions this year?
Papanicolaou, PDMA: Syndications are more expensive. No doubt about it — because you pay a fee, which you don’t in an auction.
As far as the net costs are concerned, we have no way of knowing how these compare with an auction, because the size you can achieve in a syndicated deal is so much larger than in an auction. For example, when we launched our €8bn 10 year tap in June, we had a book of about €20bn. That was our largest ever transaction, and of course to get that size would have been impossible through an auction.
Clarke, RBS: Auctions aren’t free. There is sometimes a temptation to think that you’re not paying anything to do an auction because you don’t pay fees. But that is not necessarily the case. The market moves and clears at a price. In a syndication process you are taking away some of that potential volatility in the pricing. The economics of syndication become much more compelling when you think about the alternative, which could be an uncovered auction.
The role of syndications has been vindicated particularly in the case of Southern European sovereigns, and it has clearly brought more stability to big ticket issuers by engaging investors when the background is very turbulent.
EUROWEEK: Do auctions and syndications reach different investor bases, or do you end up with broadly the same geographical bias?
Cannata, Italian Ministry of Economy and Finance: This is difficult to judge, because we never get precise data on the outcome of auctions. What we feel from a qualitative perspective is that there aren’t big differences. We changed our auction methodology in October 2008, and the new system is working very well. We have received information from our primary dealers suggesting that there has been an increase in the number of buy orders from big international investors in our auctions. That was unusual in the past but has become much more common this year.
Garcia, Spanish Treasury: We have also seen more participation from big investors in our auctions.
However, one of the strengths of syndication is that it gives you a marginally broader allocation in geographical terms. So in each case we need to make a decision that takes into account not just the all-in costs but also the diversification of the investor base that you can achieve with a syndicated deal.
McGregor, BAML: You can definitely get access to a much wider footprint of investors through a syndication than you ever could via an auction.
Clarke, RBS: When you have the sales forces from four lead managers talking to investors throughout the world and explaining the credit metrics to them, you have a much better chance of diversification.
By contrast, it can be difficult for international investors to start playing in a Greek or Portuguese auction where they may not be so familiar with the dealers or with the auction system. Syndication used in other currencies compounds this benefit as certain investors want exposure to the names but don’t have euro proceeds.
Arkus, Credit Suisse: You could argue that the final investor base can be quite similar. But obviously if you go down the auction route you’re much more reliant on dealer take-up in the first instance and on bonds to be sold down to end investors over time.
I would also argue that by going down the syndicated route you get more international participation from, for example, the Asian central banks that gain better access to the volume they require with more definition around pricing given.
EUROWEEK: A notable feature of eurozone sovereigns’ funding programmes of 2009 was the increased importance of bills issuance. Has Italy issued more short-dated debt in 2009 than you would usually?
Cannata, Italian Ministry of Economy and Finance: No. We’ve used treasury bills at more or less the same level that we did in 2008. But it is important to notice that we also issue two year zero coupon bonds (CTZs), which are included in our stock of medium-term bonds. There has been an increased appetite for zero coupon bonds, and gross issuance of those has been higher than in 2008. CTZs are at more or less the same amount of our gross issuance as in 2008, but the total share of these bonds in the overall composition of our debt has declined because there were quite significant redemptions this year.
EUROWEEK: Did Spain adopt a similar strategy?
Garcia, Spanish Treasury: The increase in our funding requirement over and above the issuance target outlined in our January projections has been covered mainly by bonds. Issuance of treasury bills has been in line with the estimates we released in January. Of course part of the increase in our total financing has been through short-term Letras [treasury bills], which is sensible not just because of the cost but also because of the nature of some of the items that have led to an increase in the financing requirement.
For example, the Financial Asset Acquisition Fund (FAAF) will start to make reimbursements next year.
But overall we haven’t aggressively reduced the average life of our portfolio in 2009.
EUROWEEK: What about Portugal? Did you increase your short-term issuance this year?
Soares, ICGP: Yes, but not very dramatically. Our usage of treasury bills went from 10% of our total outstanding debt in 2008 to about 13% in 2009. We have a mandatory obligation to maintain out total stock of short-term debt within certain limits, and we feel the balance we have at the moment is appropriate.
Clarke, RBS: Using short term debt is not necessarily a sign of weakness. Sovereign borrowers in South as well as North Europe were right to take advantage of low short term rates in 2009.
EUROWEEK: Will sovereigns continue to make extensive use of short term debt in 2010? And to what extent will they be looking to term out their debt next year?
Papanicolaou, PDMA: Of course we will need to remain flexible in 2010 because markets will continue not to be in the best of shape. But at the same time things will become easier in the sense that we won’t have to do as much short term issuance as we did in 2009.
Soares, ICGP: Our priority will be to maintain as much flexibility as possible. So we won’t make any decision about maturities until we’ve had extensive consultation with our primary dealers and our investors. The maturity profile of our issuance in 2010 will depend very much on market conditions.
Gabizon, HSBC: Southern European economies tapped the longer end of the market very successfully in 2009, and there will be continued demand for duration in 2010.
Clarke, RBS: Talking about the shorter end of the curve, Southern European sovereign borrowers may have been crowded out more by the government guaranteed market than those in Northern Europe. By the same token, the sharp fall that we expect in government guaranteed issuance in 2010 will probably benefit sovereign borrowers in Southern Europe more than the North.
Kentaro, Barclays Capital: If market conditions continue to improve, sovereigns will aim to lengthen their financing to 10 years and longer, mainly to refinance their short-term funding since the crisis. Considering genuine needs from investors for duration in cash instruments as opposed to swaps, and in light of the relatively flat euro yield curve, I think 15 and 30 year issuance will become a very realistic option for all eurozone sovereign borrowers.
EUROWEEK: How important is the retail investor to you? Are you doing anything to encourage more participation by retail investors?
Cannata, Italian Ministry of Economy and Finance: For Italy that hasn’t really been necessary. In the last quarter of 2008 we saw enormous demand from retail investors for treasury bills. That demand was reversed in the early months of 2009 and replaced by demand for longer dated bonds, such as the zero coupon two year instruments, and for BTPs with maturities of up to three or five years. Investors have recognised that they are adequately remunerated when they go further down the yield curve.
I’m delighted by that, because when we first launched the CTZs in the mid-1990s, we did so precisely to encourage people to invest in instruments other than very short term securities. But initially our success was limited, because demand remained dominated by mutual funds and money market funds. So it is pleasing that retail investors have now discovered the benefits of CTZs.
Soares, ICGP: We have a retail programme in the form of savings certificates which we offer to the general public. Retail issues make up about 13% of our outstanding debt so it’s already an important proportion and we don’t expect it to become much larger.
Arkus, Credit Suisse: Retail investors have become more active in the government product this year. US Treasury investment by households has risen this year from about $330bn to well over $600bn. That reflects increased household savings rates and that this money is targeting low risk domestic products.
Swiss placement of high grade product has certainly increased this year, and some percentage of that will be coming from the retail buyer.
EUROWEEK: Looking back over the crisis, is it fair to say that sovereigns needed to explore more innovative ways of raising funding?
Soares, IGCP: We haven’t made any significant changes to our strategy. Obviously we are a small issuer in the context of the eurozone. It is true that there was a rise in the risk premium demanded by investors at the height of the crisis, but this has been corrected by the market to a great extent over the course of the last year.
Cannata, Italian Ministry of Economy and Finance: Not really. We are always open to suggestions if there is clear demand for a new instrument and it is consistent with our policy. But for the moment, no.
Arkus, Credit Suisse: Rather than seeing innovations, I think we have seen a back to basics approach to funding on the part of sovereigns. The main priority was raising high volumes cost-effectively and securing certainty of execution.
EUROWEEK: Would the Tesoro characterise the FRN it issued in July as an innovation? After all, the FRN has been a feature of the Euromarket for well over 40 years.
Garcia, Spanish Treasury: Yes. We can consider the FRN to have been an innovation for us. Although we are very satisfied with how that deal went, it is not going to become a backbone of our strategy, which is based on bread and butter issuance of euro-denominated Letras, Bonos and Obligaciones. But of course we will continue to look at complementary instruments that might allow us to tap other investor bases. In this complementary vein we will also consider the option of Schuldschein financing. But we don’t envisage any big change in our overall strategy.
Arkus, Credit Suisse: Spain’s floater was a good way of adding volume through an alternative product. We may see more of that. Regulators are directing domestic banks to look at government investments as liquidity buffers, and as banks manage balance sheets on a floating basis, you would expect that there may be an increased demand for FRNs.
Gabizon, HSBC: I suspect that a number of European sovereigns that have not yet done so will start to look at the potential of FRNs. Clearly the general expectation is that rates will either stay low or go up. So the FRN is a tool that many investors in the EU are looking at and their demand for a range of different credits is likely to rise going forward. I expect rising issuance of FRNs to be a greater theme next year.
Soares, IGCP: As I said earlier, we have not felt any pressure to make any major adjustments to our funding strategy. But obviously we have made some important efforts to diversify our sources of funding, which is why we have launched an EMTN programme this year which we have used on an opportunistic basis.
EUROWEEK: How much have you issued off your MTN programme since it was launched?
Soares, IGCP: Around €700m. While we are committed to using this programme we also recognise that it is important that it doesn’t have a negative impact on the liquidity of the OT market, which is our main funding tool. Being a small issuer, ensuring that there is an adequate level of liquidity in the OT market is essential.
EUROWEEK: On balance, would you say that being a smaller issuer than other sovereigns is a disadvantage for a borrower like Portugal, because of the relative illiquidity in the OT market? Or is it more of an advantage because it allows you to leverage off your relative scarcity value?
Soares, IGCP: Overall I’d say it’s an advantage because it means there is less pressure on our funding programme. It also gives us more flexibility to separate our issuance programme from our risk management programme.
EUROWEEK: Nevertheless, are there other innovative alternatives that some of Europe’s smaller borrowers can explore to address the potential problem of illiquidity? There has been talk of a pooled issue for smaller sovereigns in Europe.
Soares, IGCP: There have been discussions along those lines but I think this is a very complex issue. Frankly I don’t see it taking material form any time soon.
Clarke, RBS: On the broader topic of innovation, it is important for issuers to protect the integrity of their overall programmes, which can be compromised by innovation for its own sake. If borrowers can identify innovations that complement their programmes and bring efficiencies, then fine.
EUROWEEK: Borrowers like the UK have made amendments to their auction process, introducing mechanisms such as the post-auction option facility. What innovations, if any, have borrowers in Southern Europe been making in their auction processes?
Cannata, Italian Ministry of Economy and Finance: We’ve had the post-auction option facility since 1994. Originally we had this facility only for medium and long term bonds. At the beginning of the 2000s we extended it to six-month treasury bills because the rate on these bills is the parameter for our floating rate notes. This year, because of the clear interest in the market for our treasury bills, we also extended it to 12-month bills.
Under the old auction system it often happened that the price at the auction was higher than the market level. This year we have had a more flexible auction method in which the price is set at the market level. Almost all the reopenings for our primary dealers have been fully subscribed, which has certainly helped to increase the liquidity of our bonds. That has been particularly important for the launch of our two 10 year benchmarks this year. One was in the spring where we were able to launch a bond of almost €7bn.
Garcia, Spanish Treasury: Overall, the impact of the crisis on our debt management strategy has been marginal in terms of significant structural change. It has been more a question of adaptations and marginal adjustments here and there. For example, we’ve had the post-auction option facility that you mentioned for decades. It has worked well and we have had no reason to make any material changes to the system.
Arkus, Credit Suisse: It is important to mention the strong relationships borrowers have with their dealer groups. That has been key for several sovereigns during the crisis both in terms of the advice they have received in terms of adapting their issuance programme to a new environment, and in securing a properly functioning secondary market.
EUROWEEK: What have been the latest developments in the inflation-linked market in Southern Europe? Let’s start with Italy, which returned to the linker market with a highly successful 30 year deal in October. That was an important landmark because it was the first syndicated linker from a eurozone sovereign this year, and the first syndicated 30 year transaction in the inflation-linked space since France’s 2040 benchmark in March 2007.
Cannata, Italian Ministry of Economy and Finance: We were very pleased with our deal in October, and we will continue to be committed to the inflation-linked market, which is an important part of our funding strategy. We will probably open new lines for two of our existing linker bonds in the first part of 2010. Those are our 10 and 15 year linkers. The 30 year sector will be covered by reopenings of the BTP €I 2041.
The last question mark that remains for us in the inflation-linked market is over the five year maturity. Expectations for inflation remain quite low for the next two or three years and for the moment it looks unlikely that there is going to be enough demand to warrant the issuance of a new five year bond. But things can change, so we will continue to monitor demand for linkers.
EUROWEEK: Greece has tapped the linker market before. What are your plans for this market?
Papanicolaou, PDMA: Our issuance in the linker market is driven by demand. We issue when there is clear investor demand, and if we don’t like taking exposure to inflation we swap it back into fixed. At the moment, about 6.5% of our overall debt issuance has been in linkers, but the actual share of our outstanding debt is about 4.5% after swaps.
EUROWEEK: Many bankers are looking forward to the inaugural syndicated inflation-linked benchmark from Spain, which they expect will be launched in 2010. Can the Tesoro comment on Spain’s plans for the linker market?
Garcia, Spanish Treasury: We can’t give any precise details because we haven’t decided on them yet. But it is correct that our plan is to start issuing inflation-linked bonds next year, indexed of course to the euro area inflation rate.
EUROWEEK: In the case of a borrower like Portugal, is your programme big enough to allow you to do inflation-linked bonds if there was sufficient demand?
Soares, ICGP: Certainly not.
EUROWEEK: Not even through your MTN programme?
Soares, ICGP: Well, we follow a very opportunistic approach in our MTN issuance. So if a cost-effective alternative were to arise we would look at it. But our main focus is on providing as much liquidity as we can, we don’t think we have enough room to explore that type of instrument.
EUROWEEK: Would the same be true of your approach to the dollar market?
Soares, ICGP: Yes. We have issued in the dollar market, but very much on an opportunistic approach.
EUROWEEK: Returning to the inflation-linked market, does it give borrowers access to a very different investor base from the nominal market?
Cannata, Italian Ministry of Economy and Finance: It is of course a more limited investor base. We see the same investors in the linker sector that we see in the nominal sector, but that is not true the other way round. Many big investors that are active participants in the nominal market aren’t present in the linker sector at all.
Garcia, Spanish Treasury: In Spain there is no such thing as a dedicated investor base for inflation-linked bonds. One of the reasons we are planning to issue in the linker market is to diversify our investor base, so we hope we won’t appeal only to existing investors. But realistically we will not be able to access a completely new investor base.
Gabizon, HSBC: I expect a number of European markets to increase their use of the inflation-linked product in 2010, but I agree that I don’t think it is a feasible alternative for some of the smaller economies with relatively low overall funding requirements.
EUROWEEK: What are borrowers’ plans for the dollar market and other currencies? Is Italy’s issuance in dollars purely arbitrage-driven or would you describe it as more strategic?
Cannata, Italian Ministry of Economy and Finance: Our approach to the dollar market is quite strategic but we can’t ignore the economics of the transaction. If good conditions persist in that market we will try to have a bigger presence in dollars in 2010 than we did this year. It seems that conditions in the dollar market are favourable for eurozone sovereigns so we would hope to be able to issue in dollars early next year.
In other currencies it is fair to say that we are more opportunistic.
EUROWEEK: Spain has enjoyed considerable success in the dollar market this year, with your $2.5bn deal in September your largest ever transaction in dollars. Can you comment on Spain’s strategy in dollars?
Garcia, Spanish Treasury: Our use of the dollar market as well as other currencies is mainly opportunistic. We monitor the market to seize windows of opportunity that offer us cost savings relative to our curve in euros.
EUROWEEK: Do bankers see scope for more dollar issuance from South European sovereigns?
Taor, Barclays Capital: At the start of the year, investors were very cautious. But as they became less risk-averse and spreads normalised, a number of European sovereigns found the dollar market increasingly accessible, with borrowers like Spain accessing the market very successfully. The investor base is now receptive to a wide range of names in dollars, so I expect the market to remain important for sovereigns from North as well as South Europe.
One potential disadvantage of the dollar market, however, may be that it does not offer much by way of duration for European sovereign borrowers. The longest maturity we’ve seen this year from a sovereign in the dollar market is five years.
Clarke, RBS: The economics of dollar issuance are obviously very heavily dependent on cross-currency basis swaps, which have moved a lot in recent weeks. The cost benefits at certain times of the year were as much as 50bp. Now they are closer to 15bp. So the arbitrage will be taken into account also when issuers contemplate the US dollar market.
Another important point for Southern European borrowers is that the performance of Libor-positive re-offers has been better than that of Libor-minus re-offers. There is a whole class of investors in dollars that want to get Libor-positive re-offers.
Gabizon, HSBC: I would expect there to be more dollar issuance from sovereign borrowers throughout Europe next year, and clearly if core issuers like France decide to tap the dollar market that would be very positive for other European sovereigns.
It will be difficult for some Southern European sovereigns to issue in euro format, so our recommendation would be for them to go down the 144A route.
EUROWEEK: With reduced issuance from the GSEs, do you have the impression that there is a high level of demand for top quality SSA borrowers in the dollar investor base?
Garcia, Spanish Treasury: We don’t have a lot of detailed information about the dollar market but the feedback we’ve been getting is that it is a market where the prospects are good in terms of investor demand, which is one reason for continuing to monitor opportunities in dollars.
Arkus, Credit Suisse: We’ve definitely seen a pick-up in terms of US investors’ interest in the SSA universe. More accounts are asking for information on various names. I expect that interest to continue. US accounts definitely focus on relative value, so it will be interesting to see how the dynamics of that play out next year.
EUROWEEK: HSBC names Greece as a "strong candidate for a dollar deal" next year. Can you comment on your plans for the dollar market?
Papanicolaou, PDMA: I do expect to finally tap the dollar market next year. We have almost completed all the legal requirements for a dollar issue.
EUROWEEK: It’s interesting that borrowers like Portugal, Greece and Spain all seem to have been placing more of their syndicated issues with domestic investors. Is it the case that there has been an increase in localisation of investor demand?
Papanicolaou, PDMA: The participation of local investors has been much higher in 2009 than in previous years, but as far as I know this has been the case for most borrowers in Europe. In our last 15 year transaction Greek participation was 39%. In previous deals this year Greek participation has been above 50%.
I think that what is more important than the geographical distribution of investors is the increased participation of real money accounts — pension funds, insurance companies and so on. In our €7bn 15 year in November, real money investors accounted for 62% of the book, which is a very high share.
EUROWEEK: In the case of Portugal, only 6% of your syndicated OT last year was placed domestically. In your deal in February, this share rose to 13%; and in May, when you issued your €3.25bn five year OT, 22.3% was sold in Portugal, which I understand represents the largest share of domestic placement ever in the syndicated OT market. Why is this?
Soares, IGCP: It is true that this year we have experienced an increase in demand for our syndicated deals from domestic investors. But the share of domestic placement remains quite moderate compared with other countries. Our investor base both in syndications and in auctions is still essentially an international one.
But it is true that we have found new domestic investors this year. We have intentionally stepped up our efforts in that direction and we are satisfied that these efforts have paid off and that we have successfully generated more demand from domestic investors.
Having said that, the balance that we achieved in our last benchmark in May appears to be adequate.
McGregor, BAML: Domestic banks have been running large liquidity positions this year and will feel most comfortable investing in their domestic markets.
Arkus, Credit Suisse: That is certainly true. An investor’s risk-free rate of return is effectively its government curve. So if you’re a French investor you’re looking at levels on the OAT curve to judge relative value. So when markets become more constrained, you do see domestic investors favouring the domestic curve.
Although there has definitely been an increase in domestic participation in sovereign issuance this year, that has been true of auctions as well as syndicated deals. The trend is more visible in syndications due to the distribution statistics being published.
EUROWEEK: Has Italy also seen more of a localisation of its investor base this year?
Cannata, Italian Ministry of Economy and Finance: We have had a very different experience in our syndicated transactions. For example, in the 15 year syndicated deal that we issued in July, 74% of the bonds were sold to non-Italian investors.
EUROWEEK: Has Asian participation in your transactions been increasing, and is that participation still very much dominated by central banks?
Cannata, Italian Ministry of Economy and Finance: Asian investors are certainly important to us. We see mainly central banks and their participation is increasing. But we have also been seeing a number of new, different Asian investors in our deals. They are less important in terms of amounts but certainly not irrelevant.
Soares, IGCP: Asia is one area which is still not very well represented in our investor base. Going forward, we are aware that we will need to concentrate more of our efforts there.
Papanicolaou. PDMA: Asian investors accounted for 7% of our €8bn benchmark deal in June. Although that is high in absolute terms it is still relatively low. So we are aware that we need to work harder to diversify our international investor base by doing more marketing and more presentations that are not necessarily deal-related.
EUROWEEK: For sovereign borrowers throughout Europe, is January going to be unusually busy?
Cannata, Italian Ministry of Economy and Finance: For sure. There will be a lot of demand and liquidity in the market in the first quarter of 2010, so it will certainly be opportune to be present in the market then.
I’ve been quite relaxed about 2010 because the distribution of redemptions throughout the year will be very smooth. There won’t be big concentrations.
Clarke, RBS: The prospects for issuance in 2010 look a lot more positive than they did in 2009, but there is still going to be uncertainty around issues such as deficits and tax receipts in 2010, and therefore about how much sovereign borrowers are going to issue. That will make for a challenging year. Investors have the cash, but they’re going to be careful when and where they deploy it.
Garcia, Spanish Treasury: I’m certainly looking forward to a quiet Christmas, because January is going to be very busy for us as it is for everybody else. At the start of the year everybody will be keeping a very watchful eye on macro-economic developments and on how central banks respond to those developments. The market will be very sensitive to developments on that front.
2010 will be a challenging year for debt managers, but I also believe that we will be going into the new year with a lot more confidence than we had at the start of 2009.