2 | K A N G A N E W S f E b r u A r y 2 0 1 4

KangaTrendsKanga

AOFM hikes borrowing programme while semi governments remain at the marginAustralia’s mid-year federal budget update showed a clear deterioration in performance from that laid out in the previous government’s budget in May. This led the Australian Office of Financial Management (AOFM) to increase its borrowing programme for 2013/14. Simultaneously, semi-government borrowers revealed that their revised ongoing funding tasks were only marginally increased, or indeed lighter, than previous projections.

On December 17 last year, the new Australian government’s fiscal update paved the way for a further increase in Commonwealth

government bond issuance. The projected underlying federal budget deficit increased in the new figures, starting with the current fiscal year and for each subsequent year out to 2016/17. Inevitably, this means that a return to surplus is no longer expected in 2015/16.

The budget update stated that “without policy change and taking no

remedial action, budget deficits would be projected in each and every year out to 2023/24”. This led to analyst concern – given such a stark revision in what has been a relatively stable global period – and for them to expect rating agencies to hint at a desire to see a medium-term plan to protect Australia’s triple-A rating.

This series of deficits will keep the Australian bond market “rather liquid” for some time, commented Annette Beacher, head of Asia-Pacific Research, FX and rates strategy, at TD Securities (TD) in Singapore.

However, Beacher also points out that the increase in Commonwealth government securities (CGS) is not

dramatic. As at October 23 last year, the AOFM had planned to issue around A$70 billion (US$60.8 billion) of nominal bonds for 2013/14 and, on the back of the revised federal budget, forecast an increase to around A$75 billion.

After accounting for A$23 billion of maturities the revised figure represents net issuance of A$52 billion, while issuance in the first half of the budget year – including the A$5.9 billion, curve-extending 2033 – was A$41.7 billion.

Meanwhile, the federal Treasury marginally revised its expectations of

linker issuance to around A$5 billion – from an expected A$4-5 billion – in the same period, while issuance by the budget update stood at A$3.35 billion.

More sustainable footingPaul Bloxham and Adam Richardson, in HSBC’s global research division in Sydney, highlight that even with the new budget horizon Australia’s fiscal position is “still not bad”, but add that it “could be better”.

Further, they say plans need to be made to put it on a more sustainable medium-term footing. These are expected to arrive with the May 2014 budget – after a federal commission of audit takes place. The expected fiscal

consolidation, say the HSBC analysts, will leave the Reserve Bank of Australia with “one less reason to cut rates futher”.

The budget update provided projections for CGS on issue to 2023/24, by which point projected volume is A$667 billion. Sydney-based interest-rate strategist, Zoe McHugh at ANZ, says this would take net debt on issue to around 15 per cent of GDP. “This is still incredibly low for a triple-A stable bond market and – even for a worst-case scenario whereby the government makes no adjustments to fiscal policy over this

time horizon – would still give Australia one of the lowest debt projections in the world,” she points out.

Meanwhile, Su-Lin Ong, head of AU/NZ economics at RBC Capital Markets (RBCCM) in Sydney, was quick to stress that Australia’s triple-A rating is not under any threat. But she adds: “It would not be surprising to see the rating agencies hint at a desire to see a more detailed and credible medium-term plan towards fiscal sustainability in next year’s budget.”

TCV in no danger of losing triple-ATreasury Corporation of Victoria (TCV) updated its funding programme for the 2013/14 financial year on

“It would not be surprIsIng to see the ratIng agencIes hInt at a desIre to see a more detaIled and credIble medIum-term plan towards fIscal sustaInabIlIty In next year’s budget.”su-lin ong RBC Capital MaRkets

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4 | K A N G A N E W S f E b r u A r y 2 0 1 4

KangaTrendsKangaDecember 16 last year, following the December 13 publication of the state of Victoria’s budget update. The revised programme reduced TCV’s expected funding volume for the current financial year, to A$6.06 billion from the previous forecast – released in May last year – of A$6.69 billion.

The Victorian budget update displayed little change in state financial headline numbers and analysts responded broadly positively to the budget update. A report penned by Melbourne-based ANZ senior economist, Cherelle Murphy, suggests Victoria is in no danger of losing its ratings pre-eminence among its peers.

“Victoria is the only state to be rated triple-A stable by both major rating agencies and the only state not to be in deficit, or to forecast this possibility over the next four years. Given the additional fiscal prudence exhibited in this budget update, Victoria will have no trouble maintaining its triple-A rating,” she says.

There is no sign of a change in strategy in TCV’s funding update. This year’s task is 70 per cent complete based on the revised numbers, including A$968 million of prefunding rolled from 2012/13, with most of the total having been raised from the treasury corporation’s benchmark bond programme.

TCV says it “continues to expect the remaining funding requirement to be predominately funded through the domestic benchmark bond programme”, supplemented by domestic and euro commercial paper.

The treasury corporation has no plans to issue inflation-linked debt. And while it will “continue to seek opportunities” in international markets, it concludes: “Given the current indicative pricing levels across each of the non-AUD markets and TCV’s current AUD funding levels, it is considered highly unlikely that non-AUD issuance will be achievable this year.”

lower budget task for QTC Three days after TCV, Queensland Treasury Corporation (QTC) released its mid-year update, revealing a A$1 billion decline in its projected task for the current

year. The reduction, to A$6.1 billion of expected term funding, is based on “better operating performance in the general government sector, lower borrowing requirements across government and use of surplus liquidity”.

The Queensland government’s mid-year update preceded QTC’s announcement by a day. It revealed a A$500 million increase in expected state revenue over the next four years relative to figures from the May state budget. On the other side of the ledger, expenses were revised upwards by A$700 million over the same period.

Despite suggesting that there “appears to have been a little slippage in the nonfinancial public sector’s operating position”, a report penned by RBCCM’s Sydney-based fixed income and currency strategist, Michael Turner, is still relatively positive on the Queensland mid-year update.

In terms of its current-year funding requirement, QTC plans to supplement the A$6.1 billion term-funding forecast – A$3 billion of which had been issued by December 18 – with A$5 billion of short-term issuance to meet its A$11.1 billion aggregate target for the year.

TCorp unchangedFollowing the release of the New South Wales (NSW) government’s mid-year budget review on December 12 last year, NSW Treasury Corporation (TCorp) published an updated annual funding requirement unchanged from that projected after the state budget in June. This was despite what one analyst report describes as a further “modest deterioration” in NSW finances.

TCorp’s expected term funding requirement for 2013/14 remains consistent at A$5.3 billion, of which the state funding agency says it had raised A$2.8 billion by the time of the mid-year update. Term issuance will be used to fund A$4.9 billion of client lending and A$4.0 billion of long-term maturities. TCorp had prefunded this requirement by A$3.6 billion. All figures are consistent with projections from the earlier state budget.

The mid-year update continues the recent theme of deteriorating state revenues. In a report, Turner says: “Some of [the revenue decline] can be attributed to restructuring which shifts – and reclassifies – expenses and revenues between different parts of the total public sector. But underlying this has been a deterioration in revenues which is a little worse than we had expected.”

On the other side of the ledger, the NSW state government also revised its projected expenses downwards, by A$2.1 billion over the forecast period. Turner concludes: “Revenues are weaker and expenses are a little higher. Neither of these is particularly welcome but we are still comfortable expecting this government to maintain fiscal discipline.”

According to TCorp, the unchanged funding requirement was made possible by the fact that increased general government borrowings have been been offset by “a modest reduction in the borrowing requirement across the public trading enterprise sector”.

TCorp also says it continues to receive a favourable response to its debt programme from global investors. In a statement confirming the unchanged plan for the year, it says: “The NSW government’s fiscal strategy and commitment to the triple-A credit rating has seen consistent interest from both domestic and global investors through the year. This interest, together with modest refinancing requirements over the coming years, can be expected to provide strong ongoing support for TCorp bonds.”

nT improvesWhere NSW is showing near-term revenue weakening but long-term improvement in the state government’s budget position, the situation in the Northern Territory (NT) – which released its mid-year update on the same day as NSW – is largely reversed.

An increased share of Australia-wide goods and services tax receipts coupled with higher payroll tax and stamp duty revenues saw NT’s expected operating deficit for 2013/14 reduced by 0.6 per cent, to 3.2 per cent of revenues. •

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Sources: 1. Source: 2013 FinanceAsia Achievement Awards. 2. KangaNews Awards 2013. Voted by 300 Australian institutional investors, rates and credit borrowers, and intermediaries. 3. Peter Lee Associates Debt Securities Investors Australia Survey 2013. Rank vs. top 4 major domestic banks. Based upon the most active investors in each type of security. Based upon Westpac achieving a no.1 ranking amongst the four major domestic banks for estimated market share across Commonwealth Treasury and Semi Government Bonds, Corporate Bonds, Asset Backed Securities and CPI Linked Securities, a no.1 ranking for Relationship Strength amongst the four major domestic banks across Commonwealth Treasury and Semi Government Bonds, Corporate Bonds and Asset Backed Securities. 4. Bloomberg Year 2013 AU/NZ Capital Markets League Tables. Westpac Institutional Bank is a division of Westpac Banking Corporation ABN 33 007 457 141 AFSL 233714 (“Westpac”). Westpac Banking Corporation is registered in England as a branch (branch number BR000106), and is authorised and regulated by the Australian Prudential Regulatory Authority in Australia. WBC is authorised in the United Kingdom by the Prudential Regulation Authority. WBC is subject to regulation by the Financial Conduct Authority and limited regulation by the Prudential Regulation Authority in the United Kingdom. Details about the extent of our regulation by the Prudential Regulation Authority are available from us on request. Westpac Europe Limited is a company registered in England (number 05660023) and is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. China, Hong Kong, Singapore and India: Westpac Singapore Branch holds a wholesale banking licence and is subject to supervision by the Monetary Authority of Singapore. Westpac Hong Kong Branch holds a banking license and is subject to supervision by the Hong Kong Monetary Authority. Westpac Hong Kong branch also holds a license issued by the Hong Kong Securities and Futures Commission (SFC) for Type 1 and Type 4 regulated activity. Westpac Shanghai and Beijing Branches hold banking licenses and are subject to supervision by the China Banking Regulatory Commission (CBRC). Westpac Mumbai Branch holds a banking license from Reserve Bank of India (RBI) and subject to regulation and supervision by the RBI. DW_WBC537A1_KN

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KangaTrendsKanga

APRA adds to CET1 requirement for big four, then provides more liquid assets detail

The Australian Prudential Regulation Authority (APRA) published an information paper on December

23 last year, in which the banking sector regulator laid out its framework for dealing with Australia’s domestic systemically important banks (D-SIBs). Under this regime, D-SIBs will be subject to an extra 1 per cent common equity tier one (CET1) requirement as the local higher loss absorbency (HLA) treatment – which APRA says is “at the lower end of the range used elsewhere”.

Only the four majors will be considered D-SIBs in Australia. APRA adds: “There is no basis to distinguish between the four major banks in terms of their systemic impact. Accordingly, they will be subject to equivalent treatment on matters such as the HLA requirement and other elements of APRA’s supervisory approach to D-SIBs.”

Then, on January 30 this year, APRA also provided local banks with more detail around how the Australian liquidity coverage ratio (LCR) regime will work from implementation at the start of 2015. Significantly, in a January 30 letter to banks APRA reveals that the Reserve Bank of Australia (RBA) has determined that local banks can reasonably be expected to hold, in aggregate, 30 per cent of the total supply of Commonwealth and semi-government securities.

HlA treatment Before the imposition of the HLA requirement, the final Basel III capital regime required banks to have 4.5 per cent of CET1 plus a “capital conservation buffer” of an additional 2.5 per cent of CET1. The 1 per cent HLA will be added to the conservation buffer, landing at a requirement for Australia’s big four to maintain 8 per cent CET1.

APRA says its decision to only apply a 1 per cent HLA requirement is relatively modest. “The methodologies and

benchmarks suggest that an appropriate range for the HLA requirement in Australia would be in the order of 1-3 per cent of risk-weighted assets.”

The Australian regulator settled on a figure at the lower end of this range largely because of its “more conservative approach to capital” than other regulators. Australian banks report their regulatory capital numbers in both APRA-approved and globally integrated format, with the former invariably lower than the latter.

“The quality of capital and assets is as important as the ‘headline’ regulatory capital ratios reported by banks,” APRA says. “Banks – and other authorised deposit-taking institutions – in Australia have traditionally held a higher-quality capital base than many of their offshore peers, although reported headline ratios appear lower than those peers.”

APRA also sees no reason to give Australia’s D-SIBs any additional time for implementation, instead sticking to its decision to require full implementation from January 1 2016.

Bank responseConservative capital management also sets the Australian majors up well to handle the HLA requirement. Annual results released by Westpac Banking Corporation (Westpac) for the year ending September 30 2013 show a CET1 ratio of 9.1 per cent – or 11.6 per cent on a “global fully harmonised basis”.

Immediately following the APRA release on December 23, Westpac said in an Australian Securities Exchange (ASX) announcement that it is “well placed to meet these updated requirements”. However, the bank does not rule out further action. “Westpac will review its preferred capital levels noting that there is potential for the additional capital conservation buffer to substitute, in part, for existing management buffers,” the bank reveals.

In its own ASX announcement, ANZ Banking Group (ANZ) confirms that its capital position is “already in excess of APRA’s requirements including the D-SIB overlay”. Again, though, the bank says it “may modestly increase its capital buffers from current levels”. As at September 30 2013, ANZ had a CET1 ratio of 8.5 per cent, or 10.8 per cent based on international Basel III standards.

National Australia Bank (NAB) says it has a “strong capital position and expects to be able to meet the revised capital requirements through organic capital generation and, if required, through the settings under NAB’s dividend reinvestment plan”. According to its annual results, NAB’s capital position at September 30 last year included an 8.4 per cent CET1 ratio – 10.3 per cent on a globally harmonised basis, the bank says.

Commonwealth Bank of Australia (CBA)’s year-end figures, to June 30 2013, show CET1 of 8.2 per cent based on APRA rules and of 11.0 per cent based on international standards. A CBA ASX announcement confirms the bank’s capital position is “already in excess” of the updated regulatory requirement.

liquids detailDuring 2013, APRA undertook a trial with 35 banks to determine the proportion of their LCR books that should be made up of HQLAs – and, as a result, the size of RBA-provided committed liquidity facilities (CLFs) to make up the shortfall for each authorised deposit-taking institution (ADI).

APRA’s view has always been that banks should maximise their HQLA holdings and only be provided with a CLF sized to meet an unavoidable shortfall. In its trial, APRA says the projected aggregate net cash outflow of the Australian banks over the 30-day period which determines LCR was around A$418 billion (US$365.3 billion), and the required

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KangaTrendsKanga

The australian prudential regulation authority (apra) released its final position on

the local interpretation of basel III liquidity coverage ratio (lcr) rules on december 20 2013. the new regime is little changed from that proposed in advance of the most recent consultation on the subject. but the regulator has fallen into line with the global calendar by temporarily shelving its planning on the net stable funding ratio (nsfr).

apra notes that the basel committee on banking supervision (bcbs) slowed its timeline in January 2013, with the nsfr now not coming into force until the beginning of 2018. the australian regulator comments: “apra is fully committed to the implementation of the nsfr on the bcbs’s timetable, but further consultation on this second of the new global minimum standards will await finalisation of the bcbs’s rules text. accordingly, the nsfr has been removed from the final prudential and reporting standards.”

liquids and ClFunsurprisingly, apra’s final standards are unchanged in respect

of what asset classes will qualify for the lcr. since february 2011 apra has held firm to its view that only cash, balances at the reserve bank of australia (rba) and securities issued by australian government and semi-government borrowers will qualify as level-one high-quality liquid assets (hQla1s).

apra has now confirmed its decision not to recognise any securities as level-two high-quality liquid assets, despite the extension of the list of potential candidates by the bcbs in its update. apra says submissions on this aspect of the lcr broadly “accepted this approach”.

one area where authorised deposit-taking institutions (adIs) asked for more clarity from apra is the committed liquidity facility (clf) banks will be allowed to enter with the rba to make up any shortfall in hQla1s relative to their lcr requirements.

according to apra, some submissions expressed concern that the regulator would “limit access to the clf for some industry segments” by forcing them to meet lcr needs solely through hQla1s.

APRA dRoPs NsFR coNteNt iN FiNAl liquidity tReAtmeNtothers, meanwhile, suggested that banks which exclusively hold hQla1s “should not be restricted in rebalancing their liquid assets portfolios by being denied access to a clf”.

apra takes a relatively flexible stance in response. It says: “apra will consider it reasonable that adIs currently holding significant hQla1 liquidity buffers reduce the size of these buffers to a level in line with their peers, replacing hQla1 assets with clf-eligible securities. In lcr calculations, assets that are eligible for inclusion as clf eligible securities are, after the application of rba margins, given equal standing to hQla1.”

however, the australian regulator clearly has no intention of providing carte blanche for adIs to ramp up the clf proportion of their lcrs – a view it reiterated in early 2014 (see story on p6). It adds that it “expects that adIs will hold hQla1 at a level that recognises the available supply of those assets”, noting also that the rba plans to provide an annual estimate of the aggregate quantity of hQla1s which could “reasonably be held” by banks requiring an lcr. •

CLF aggregate to bring HQLA holdings up to this figure would be A$249 billion.

This implies Australian banks were holding, at the time of the trial, a total of A$169 billion of HQLAs. A Westpac Institutional Bank (Westpac) research note published after the APRA letter was released points out that 30 per cent of the total quantity of HQLAs outstanding – A$503 billion, comprising A$294 billion of government bonds and A$209 billion of semis – would, at A$151 billion, imply the banking sector is overweight HQLAs.

The Westpac note continues: “Does this mean that we are expecting selling of

semis from ADIs? No. This is because…the implied HQLA holdings are only 33 per cent of total HQLA outstandings which is not materially above the ‘around 30 per cent’ comment from the RBA. In addition, HQLA outstandings are projected to increase throughout 2014, so if no additional HQLA assets are purchased then the 33 per cent figure will naturally fall back towards 30 per cent.”

APRA also responds to banks’ requests for CLF to provide a buffer above 100 per cent LCR. The regulator accepts the concept, and makes the assumption that a reasonable buffer would

be 10-15 per cent above the minimum LCR requirement. Some banks requested a CLF for the purposes of the trial sized to provide a buffer which APRA “deemed to be excessive”. These banks had their notional CLF “reduced accordingly”.

In fact, the aggregate CLF volume requested by the banks for the purposes of the trial was, at A$344 billion, nearly A$100 billion greater than the volume determined to be necessary to fill the HQLA gap up to 100 per cent LCR coverage. With APRA’s appropriate buffer in place, the final notional CLFs granted totalled A$282 billion. •

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KangaTrendsKanga

Offshore bid spurs early-year Kangaroo issuance as SSAs start 2014 early globallyMatching tradition, the new year opened in the AUD market with a clutch of Kangaroo deals from supranational, sovereign and agency (SSA) borrowers. Although the sector faces some headwinds in 2014, strong demand for the first three deals – from Rentenbank, KfW Bankengruppe (KfW) and Kommunalbanken Norway (KBN) – led market participants to predict a solid pipeline of issuance at the start of the year.

international bid dominates

Distribution data from the first three Kangaroos of the year suggest the offshore dominance of books which was apparent in 2013 has

carried over, and even intensified, into the new year.

Issuers and lead managers tell KangaNews around 88 per cent of KfW’s A$700 million (US$607.6 million) transaction was sold offshore, to Asia and Europe. By type, central banks

comprised around 50 per cent of the book. By comparison, the borrower points out that offshore participation in its first Kangaroo transaction of 2013 totalled 71 per cent.

There as also action at the longer end of the curve, where good demand allowed Rentenbank to upsize its transaction by A$25 million from an initial volume of A$100 million. Around 84 per cent of the deal was sold into Asia and Europe, at 64 per cent and 19 per cent respectively, with the

remainder sold to investors in Australia and New Zealand.

Leopold Olma, director and head of funding at Rentenbank in Frankfurt, tells KangaNews the driver behind its new 10.5-year line was ongoing international-investor demand for high-quality SSA paper. The bond was introduced in September last year and has now been tapped in every subsequent month.

“Strong Japanese demand in particular was one of the drivers behind the decision to pursue the transaction.

ssA KANgARoo deAls PRiced JANuARy 1-24 2014

PriCing dATe issuer MATuriTy VoluMe

(A$M)MArgin (BP/ACgB) leAds

6 Jan 14 Rentenbank 8 apr 24 125 78.25 Deutsche, tD

7 Jan 14 kommunalbanken Norway 15 Jul 24 150 65.00 HsBC, Nomura, RBCCM

8 Jan 14 kfW Bankengruppe 16 Jan 19 700 54.00 Deutsche, RBCCM, tD

9 Jan 14 inter-american Development Bank 9 Oct 18 100 40.00 CommBank, HsBC

9 Jan 14 inter-american Development Bank 22 May 23 50 65.00 CommBank, HsBC

10 Jan 14 BNG Bank 20 May 24 25 103.75 HsBC

15 Jan 14 Nordic investment Bank 28 Feb 24 125 79.25 HsBC, J.p. Morgan

15 Jan 14 World Bank 23 Jan 19 500 41.75 aNZ, RBCCM, tD

16 Jan 14 kfW Bankengruppe 19 Mar 24 200 74.50 J. p. Morgan, Nomura

16 Jan 14 l-Bank 23 Jan 18 350 59.00 Deutsche, RBCCM

16 Jan 14 kommunalbanken Norway 23 Jan 19 250 68.00 aNZ, CommBank, J.p. Morgan

20 Jan 14 eUROFiMa 29 Jan 19 250 76.00 Deutsche, RBCCM, tD

21 Jan 14 kommunalbanken Norway 15 Jul 24 200 98.75 HsBC, Nomura, RBCCM

24 Jan 14 kommunalbanken Norway 17 apr 23 100 97.50 WiB

24 Jan 14 Rentenbank 8 apr 24 100 74.75 Citi, tDSourcE: KANGANEWS JANuAry 24 2014

“euro-based funders face challenges gIven the further deterIoratIon of the eur-usd basIs. whIle we stIll belIeve In Investor dIversIfIcatIon, we would not be surprIsed to see slIghtly reduced Issuance overall.”CAroline FliCk kFW BaNkeNGRUppe

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1 2 | K A N G A N E W S f E b r u A r y 2 0 1 4

KangaTrendsKangaThis also drove the decision to immediately upsize this transaction in the first days of the new year – to A$675 million,” Olma confirms.

While KangaNews did not obtain an official distribution breakdown of KBN’s A$150 million 2024 deal, the borrower discloses that 10 accounts participated in the trade with the majority of paper being sold to Japanese investors.

Enrico Massi, managing director and head of debt capital markets, Asia Pacific at RBC Capital Markets in Sydney, suggests that offshore participation in Kangaroo transactions continues to develop. “Offshore remains important

and the investor base offshore is broadening – a trend we expect will continue. It is good to see activity in the mid part of the curve complementing the long dates which we were seeing in the last quarter of 2013,” he comments.

This demand enabled KfW to price the new year’s largest Kangaroo deal in January, with five-year tenor. Caroline Flick, manager, new issues at KfW in Frankfurt, tells KangaNews: “We felt that starting the new year with a sizeable new line is a strong signal to the market. Furthermore, we had indications of strong interest in this part of the curve.”

demand driverThe flurry of Kangaroo deal flow in the first full week of January is consistent with previous years. Rod Everitt, head of Australian dollar syndicate at Deutsche Bank in Sydney, explains that the business has a cyclical nature. “For three years in a row we have seen a very busy January as issuers take advantage of money coming out of areas, such as Asia,

which do not have a holiday at the end of the year,” he says.

Early-year timing also suits SSA borrowers. “The majority of issuers have a December year-end so are in a new funding period,” Everitt adds. “They like to get out early with their transactions to take advantage of demand which has been sitting on the sidelines over the Christmas and new year period.”

Similarly, KBN’s Oslo-based head of funding, Thomas Møller, says the borrower had received enquiries from the market regarding the bond it chose to tap as its first Kangaroo deal of 2014 for some time, but wanted to hold off until

the turn of the year. “Given the positive signals in the first days in 2014 we decided to go ahead with a long 10-year, with the intent to build the trade up to a minimum of A$500 million,” he says.

Pipeline and challengesMarket participants were confident SSA deal flow would remain solid during January and February – a view backed by flow data from January (see table on p10). As is also traditional, the other side of the basis swap was already being supported for Kangaroo issuers by the return of Australian banks to global markets.

ANZ Banking Group (ANZ) issued in both the US and Europe, following its January 6 issue of US$1.5 billion of three-year senior unsecured paper with a €1.25 billion (US$1.71 billion) 10-year covered bond two days later. On January 9, Commonwealth Bank of Australia also tapped the euro covered bond market, for €1.0 billion of five-year notes.

Meanwhile, a number of the most prominent SSA names also took

advantage of opportunities to get started early in global funding markets. KfW priced a seven-year, €5 billion transaction on January 8 – a day after it sold £300 million (US$494.9 million) of five-year paper at a price the issuer says was comparable to the level it achieved in the Kangaroo market.

On January 9, World Bank issued a new five-year global deal with a US$1 billion upsize, to US$4 billion. The supranational says early issuance was part of a conscious plan to “reopen the market and establish solid fundamentals for issuance expected from other supranationals [the following] week”.

For SSA borrowers with a requirement for euros, at least one leg of the basis swap out of AUD is working. KBN’s Møller explains: “The levels work well swapped into USD so you can expect issuers to be eager to access the market when they see demand. The first few trading days of 2014 suggest we are well on the way to a strong January.”

Møller adds that while KBN expects more modest funding in 2014 – of around US$22 billion, down from US$27 billion last year – it hopes that around 5 per cent will still be funded in AUD. In fact, later in January KBN opened a new 2019 Kangaroo line for A$250 million, in addition to tapping its April 2023 and July 2024 bonds, by a further A$100 million and A$200 million, respectively.

KfW is less bullish on pricing. “Euro-based funders face challenges given the further deterioration of the EUR-USD basis,” Flick says. “While we still believe in investor diversification, we would not be surprised to see slightly reduced issuance overall.” •

“offshore remaIns Important and the Investor base offshore Is broadenIng – a trend we expect wIll contInue. It Is good to see actIvIty In the mId part of the curve complementIng the long dates whIch we were seeIng In the last Quarter of 2013.”enriCo MAssi RBC Capital MaRkets

1 3

deal flow from domestic issuers was slow off the mark in 2014. by January 23

last year 12 domestic-origin deals had priced for a total of a$6.2 billion (us$5.4 billion), while the same period this year saw just a$1.15 billion come to market in three transactions.

the absence of the domestic big four banks is the most conspicuous. the largest January transaction in 2013 was a a$1.75 billion floating-rate note (frn) issued by commonwealth bank of australia (cba) on January 15, and the majors supplied more than a$4.5 billion of total issuance in January.

where usually the domestic market would have seen one or two big four bank benchmark deals by the third week in January, it was left to rabobank nederland australia branch (rabobank australia) to kick off senior deal flow in 2014, on January 23. the bank’s a$600 million, five-year frn benchmark transaction priced at 105 basis points over the three-month bank bill swap rate.

according to the borrower, 75 per cent of the deal was sold domestically with the rest sold primarily to asia. by type, banks comprised 76 per cent of the book while 20 per cent was sold to fund managers and the remainder to middle-market investors.

rabobank australia was closely followed by ge capital australia funding (ge capital), which priced a a$250 million increase to its existing a$200 million september 2020 domestic line on January 24. that deal priced at 97 basis points over semi-quarterly swap.

oFFshoRe coNditioNs slow domestic issueR home-mARKet Flow As RAbobANK AustRAliA ReoPeNs Aud mARKetAttractive pricing in offshore markets has seen the usual early-year providers of domestic AUD issuance opt to take funding outside the domestic market. While domestic AUD issuance volumes have lagged behind historical norms so far for the year, market participants believe there is no shortage of demand.

“the traditional set of borrowers which would normally look to issue at this time of the year have a whole sweep of attractive options in many different currencies,” dalton tells Kanganews. but he also adds: “could deals get done? definitely – there is a lot of liquidity. those which move earlier will certainly reap advantages from the market.”

MArkeT BounCe BACk while major borrowers are well funded and therefore able to sit back and wait for the aud market to become as attractive as those offshore, sources agree that, now aud deal flow has resumed, strong demand will draw other players back to the market in february following chinese new year.

Jai anderson, head of long-term funding, australia and new Zealand at rabobank australia, explains that in previous years it was often felt necessary for a major bank to open the market and give clarity around pricing and demand for aud. “but in 2014 offshore markets have represented better value for the domestics than the local market, so they have chosen to be active in other currencies,” he adds.

anderson is confident that strong investor demand will see more domestic borrowers come to the aud market in the coming weeks. “there are still investors keen to put their cash to work at the right price. market conditions in australia are good. hopefully now that a few other financials are starting to hit the screens in australia we will see more domestic deals.” •

delAyed deAl Flowmarket sources agree the slow home market deal flow from local names seen at the start of the year can be attributed to strong markets offshore – particularly the us dollar and euro.

adam gaydon, sydney-based director, syndicate, global markets at anZ – joint lead manager on rabobank australia’s deal with commonwealth bank and westpac Institutional bank (westpac) – tells Kanganews australian credits have been particularly attracted to euro spread levels. he says: “the basis swap has contracted so the landed cost of [euro] funds for the majors is more attractive than last year – and they have been taking advantage.”

the big four started the year early in the euro benchmark market, where anZ banking group (anZ) and cba had placed a combined €2.25 billion (us$3.08 billion) by January 9. anZ was also the first mover in the us dollar market with a us$1.5 billion covered bond issue on January 6. westpac banking corporation later sold its own us benchmark, for us$1.5 billion on January 14, while cba placed a £350 million (us$577.4 million) transaction on January 19.

major bank funders at a January roundtable hosted by Kanganews and rbc capital markets revealed that offshore markets were offering the best cost of funds, even swapped back to aud, at the start of 2014 (see p42). peter dalton, head of syndicate at westpac in sydney, points out that tighter funding offshore is affecting targets, making the australian domestic market look less attractive by comparison.

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KangaTrendsKanga

Responses to FSI consultation reveal Australian financial industry’s wish listSubmissions made during the consultation period on the terms of reference for the Australian government’s forthcoming financial system inquiry (FSI) give significant insights into the hopes and fears of different segments of the Australian financial services industry. Banking competition, productive allocation of superannuation fund assets and debt funding were mentioned repeatedly in the consultation, which closed in December 2013.

The government plans for the FSI to be conducted in 2014 with a final report to be provided to

the federal treasurer by November 1. David Murray, former chief executive of Commonwealth Bank of Australia (CBA) and the first chairman of the board of governors of the Future Fund, is heading the inquiry.

Most of the 76 submissions welcomed the FSI initiative and broadly agreed with its wide-ranging draft terms of reference. Australia’s previous FSI took place in 1997, and most industry participants responding to the consultation process agree that events in the intervening period make a new inquiry timely or even overdue.

superannuation focusThe superannuation sector expects to be a key component of the inquiry. As KangaNews reported in November last year, industry participants at the Association of Superannuation Funds of Australia (ASFA)’s annual conference said the growth of superannuation since 1997 – and its minimal presence in the last FSI report – meant coming under the microscope this time round was all but inevitable.

Specifically, superannuation practitioners said they anticipated the FSI would look at whether Australian savings are being allocated in a way which best supports the promotion of local economic growth.

The FSI’s draft terms of reference only make one explicit reference to superannuation. This promises to “identify and consider the emerging opportunities and challenges that are likely to drive

further change in the financial system…[such as those] in the way Australia sources and distributes capital, including the intermediation of savings through banks, non-bank financial institutions, insurance companies, superannuation funds and capital markets”.

However, the terms of reference also say the inquiry aims to “recommend policy options that…promote the efficient allocation of capital” and to study the implications of post-1997 developments in terms of “how Australia funds its growth”.

A submission signed by David Whiteley, chief executive at Industry Super Australia, supports the principle of the FSI exploring the relationship between Australian assets and growth. Specifically, the submission requests the inquiry to focus its efforts on securing capital allocation to areas such as research and development, infrastructure, and innovation.

The FSI should “prioritise the analysis of the ability of the financial sector to mobilise savings into investment in long-term, productivity-enhancing projects and fixed capital”, Whiteley’s submission adds.

This specifically includes superannuation funds. The Whiteley letter requests: “Consider tasking the panel with an approach to superannuation that focuses on its capacity to serve as a second pillar for funding businesses and productivity-enhancing projects, including through direct investment in firms and projects, [while] remaining mindful of superannuation’s important social policy objectives.”

ASFA’s own submission, penned by its chief executive, Pauline Vamos,

counsels that the inquiry’s work in the area of growth-supporting capital allocation should not ignore the fact that “superannuation capital already helps to finance Australia’s long-term economic growth”.

Speakers at the ASFA conference last year were constructive on growth-supporting allocations – in theory. For instance, ASFA’s director, investments and economy, Gordon Noble, highlighted the fact that one of the World Economic Forum’s principles guiding the role of financial services in society is to “facilitate efficient allocation of capital to support economic growth”.

This principle could become a guiding one in Australia. Noble argued: “We as the superannuation industry need to understand the connection between the capital we are accumulating and the economy in which we are operating. We want to be able to fill the gaps in the economy – such as the corporate bond market – where there are no impediments to development but, for whatever reason, it is not happening.”

But there was a quick rebuttal of the idea of mandatory allocations. Hostplus’s chief executive, David Elia, said: “We will use the inquiry as an opportunity to remind government of the important role superannuation already plays in the growth of the economy. The superannuation industry is already involved in the local debt market, and funds will always look to allocate to asset classes that provide good investment outcomes.”

In ASFA’s submission to the FSI, Vamos echoed this sentiment. “If superannuation funds are asked to help meet economic objectives, it should not

1 5

be in a manner detrimental to returns on fund members’ retirement savings.”

Mutuals bite backAnother strong theme to emerge from the FSI consultation responses is a desire on the part of Australia’s regional and mutually owned banks that the inquiry scrutinise the dominance of the big four. A number of players in this sector highlighted the issue, with a letter signed by Louise Petschler, chief executive of the Customer Owned Banking Association (COBA) – an industry body for mutuals, building societies and credit unions – the strongest worded.

Petschler points out that federal treasurer, Joe Hockey, “cited the ‘too big to fail’ problem” as a key reason for calling for the inquiry when he did so, as shadow treasurer, in 2010. At the time, Petschler continues, Hockey suggested areas such as “the appropriateness of government pledging its balance sheet or providing support to particular entities” and “the aggregation of financial services providers into financial conglomerates resulting in the emergence of large and diverse financial institutions” as matters for examination.

In 2014, Petschler continues: “These are important questions for the inquiry to be asking, and it is disappointing that they are not more specifically covered in the draft terms of reference. While we welcome the inclusion of systemic risk, we believe the terms of reference would benefit from a more explicit focus on the issues created by concentration in the Australian banking sector.”

In fact the COBA letter goes so far as to call into question the choice of head for the FSI. It says: “A further reason for the terms of reference to require the inquiry to explicitly examine the position of the major banks is to reinforce the independence of the inquiry given the major banks’ presence and influence. The FSI is headed by a former chief executive of a major bank – David Murray, CBA.”

The issue of major bank hegemony is also raised, albeit in more measured tones,

in consultation responses from both Bank of Queensland (BoQ) and Suncorp Bank (Suncorp). John Nesbitt, Suncorp’s chief executive, writes: “Future proofing the competitiveness of the regional banking sector should be high on the agenda. Regulation has a disproportionate impact on regional banks. The very advantageous capital requirements of major banks versus smaller institutions further undermine competition and the future of regional and smaller banks.”

Meanwhile, Stuart Grimshaw, BoQ’s managing director and chief executive, asks that the FSI closely examines “the ‘too big to fail’ guarantee provided by government to the major banks only, which provides a significant funding cost advantage through a credit rating notch upgrade”.

The major banks themselves appear to have remained largely silent in the consultation process. Only ANZ Banking Group made a public submission – there were 13 confidential submissions – penned by its head of government and regulatory affairs, Rob Lomdahl. This letter is largely supportive of the inquiry as proposed.

There is also no mention of the role of the big four banks in a submission signed by Steven Münchenberg, chief executive of the Australian Bankers’ Association (ABA). In fact, the ABA letter says the draft terms of the FSI are “consistent with the industry’s thinking on the scope and direction of the inquiry”.

Funding issuesThe only significant area where Münchenberg recommends amendment of the draft terms of reference is the suggestion that the importance of funding be more explicitly explored. He writes: “In his speech announcing the inquiry, the prime minister spoke of ‘greater efficiency in the use of capital’, and the draft terms refer to capital in several places. We have assumed that in [various of the terms] ‘capital’ should be read as including funding, but for the avoidance of doubt, that term could be amended to ‘changes in

the way Australia sources and distributes capital, including debt funding’.”

Funding also comes up in at least one submission from the superannuation industry – the letter from Industry Super Australia’s Whiteley. He asks for consideration of “whether the terms of reference should task the panel with mapping the actual vulnerabilities and consequences of offshore funding risks and government intervention options to address them – as well as ex-ante structural changes to avoid intervention”.

The changing shape of funding for the corporate sector is the main focus of the consultation letter authored by the Finance and Treasury Association (FTA)’s president, Paul Travers, and chief executive, David Michell. Their submission describes the process by which Australian corporates have reduced their “traditional reliance…upon direct borrowing from banks” in the post-financial crisis regulatory environment. This includes “embracing the domestic corporate bond market which provides access to the domestic saving pool in another guise, ie superannuation fund investors”.

As a consequence, Travers and Michell counsel: “It is important government enhance and not inhibit this long-anticipated development or corporate funders may be encouraged to look to riskier sources of capital.”

The letter also alludes to a topic of heated discussion at the FTA conference in November 2013: the perception by corporates that new regulatory requirements are making it harder and more costly to access legitimate financial hedging tools. Travers and Michell write: “Greater reference should be made throughout to availability of financial services and products in the context of commerciality, risk and return considerations. Specifically, we suggest redrafting [term of reference] 4.3. or adding a similar line to read ‘support individuals and businesses to be reasonably able to manage their financial risks by using financial products’.” •

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KangaTrendsKanga

Domestic fund manager sentiment warms to tier-two issuanceIn the wake of Australia’s first wholesale-only issue of tier-two bank debt under Basel III rules, the transaction’s issuer and lead managers say increased investor comfort around the new-style securities supported significant oversubscription and price tightening. Bendigo and Adelaide Bank (Bendigo-Adelaide) sold A$300 million (US$260.5 million) of tier-two notes with, according to the issuer, a 2.5 times oversubscription.

The deal, which was led by Goldman Sachs, National Australia Bank (NAB) and Nomura, priced at 280 basis points over bank bills – 5

basis points tighter than the bottom end of its 285-300 basis point marketing range. It attracted more than 35 investors, predominantly from the domestic real-money sector.

Michael Cluskey, head of FIG capital at Goldman Sachs in Sydney, tells KangaNews the book was high-quality

and diverse, with support from “the majority of the key Australian funds” complemented by private bank investors both domestically and in Asia.

Fund manager engagementAlthough Australian fund managers expressed doubts about the likely risk-return equation of new-style tier-two securities earlier in the life of the asset class, behind-the-scenes work in 2013 helped cultivate this key investor base.

Geoff Johnson, Sydney-based director, debt syndicate at NAB, says the institutional bid started to emerge in 2013. “The deals printed last year were in retail format but they also attracted some institutional participation,” he reveals. “A

general view had developed that fund managers were increasingly becoming interested in the tier-two space and that there would in time be a viable wholesale market for the product.”

Proactive work on the part of intermediaries helped, as Cluskey explains: “Through the course of last year we did a lot of work with fund managers, both in Australia and offshore, to explain non-viability. Funds have become more familiar with new-style tier-two securities, and the feedback we

received in the final quarter of 2013 and into the new year gave us a lot of confidence that they would support an institutional deal.”

Will Rayner, Adelaide-based head of capital at Bendigo-Adelaide, says the issuer’s confidence to launch a wholesale-only transaction came from seeing the development of an institutional bid for last year’s retail tier-two transactions and, most importantly, the bank’s ongoing dialogue with wholesale investors about their market sentiment and product preferences.

Timing sweet spotSeveral factors appear to have focused investor attention on the new-style market

and laid the foundations for a wholesale deal. In fact, the heavy lifting on fund managers’ part may have happened relatively recently.

“The last 3-4 months has seen a significant shift in investor views on Basel III-compliant capital instruments, in particular as they relate to non-viability conditions,” Rayner tells KangaNews. “We suspect the majority of the credit work to get comfortable with these structures was completed in this recent period, and our sense is that this is the result of a growing

realisation that the Basel III tier-two rules are here to stay.”

Andrew MacGonigal, head of debt origination at Nomura in Sydney, says a flurry of tier-two issuance under old rules at the back end of 2012 sated issuer and investor needs. For much of last year, old-style tier-two notes were still available in the secondary market, especially offshore – confirming investor commentary during the year that they were happy holders of outstanding securities and therefore not pushing hard for new issuance.

That situation was only ever temporary, however. “Basel III-compliant securities have become the norm for global issuers and, increasingly, for investors as the old-style notes roll off,”

“the last 3-4 months has seen a sIgnIfIcant shIft In Investor vIews on basel III-complIant capItal Instruments, In partIcular as they relate to non-vIabIlIty condItIons. we suspect thIs Is the result of a growIng realIsatIon that the basel III tIer-two rules are here to stay.”will rAyner BeNDiGO aND aDelaiDe BaNk

1 7

adds Oliver Holt, Nomura’s Hong Kong-based head of Australian fixed-income syndicate. “If the process of acceptance has happened everywhere else – and new-style securities are the only available access to tier-two bank capital – then it was inevitable that the Australian market would follow in time.”

Meanwhile, investor desire for yield also likely helped crystallise the bid for tier two. Johnson points out that there had not been any benchmark senior bank issuance in the Australian dollar market in 2014 prior to the tier-two deal – though he has no doubt that deal flow will recommence in due course. He adds: “Given where the market has got to in terms of credit spreads we certainly felt there would be a positive response to tier-two issuance.”

Pricing talkEven so, finding a mutually acceptable price was key to the success of the Bendigo-Adelaide transaction, Holt says.

He adds that the process of doing so was managed carefully and over an extended period. “What we saw was the discussion changing from a rejection of the asset class, to an engagement with it ‘at the right price’, to a final acceptance on the part of many investors that the price for this transaction was fair,” Holt tells KangaNews.

With no wholesale tier-two deals to use as comparisons and the domestic primary market for other bank paper yet to reopen in the new year, last year’s retail tier-two issuance and the secondary senior bank curve were used as guidance.

The most recent retail tier-two deal to close in Australia was AMP Bank’s A$325 million issue, which set a margin of 265

basis points over bank bills in November last year. Suncorp Group priced the first AUD new-style deal, in April 2013, at 285 basis points over bills and Westpac set a margin of 230 basis points over bills on its tier-two issue in July.

The Bendigo-Adelaide transaction was explicitly targeted at domestic institutional investors – as evidenced by its floating-rate and rebate-free format, which does not perfectly match international private-bank preference. Nonetheless, Holt says, secondary trading opened on January 22 as a bid-only market driven by private banks.

The margin appears to have been right on the line for Australian fund managers. Market sources say the book appears to have attracted granular support with a wide range of mid-sized ticket bids. But KangaNews also understands that a number of accounts continue to view Basel III tier-two margins as too skinny. For instance, Helen Pericleous, senior portfolio

manager, credit markets at AMP Capital in Sydney, says the margin offered by Bendigo-Adelaide was not sufficient to persuade her firm to participate.

Although AMP Capital is “open to new-style tier-two securities, depending on pricing”, Pericleous believes there is still better value available in the secondary market for old-style securities both domestically and offshore – in particular the US dollar securities issued by Australian major banks.

“It might be different for investors who are unable to participate in offshore markets, but new deals are still coming at pretty tight levels for us,” she concludes.

Meanwhile, Tim van Klaveren, Sydney-based head of credit at UBS

Global Asset Management, tells KangaNews: “The market always knew that old-style tier-two issuance had a limited lifespan, and therefore any discussion around new-style, Basel III-compliant securities inevitably comes down to finding the appropriate pricing for the new embedded risks in these securities.”

The new level would have to factor in the inherently greater risk factors for Basel III-compliant securities, van Klaveren adds. These include an estimate of the likely trigger point for a non-viability call and previous poor liquidity experiences with capital instruments sold in the listed market in Australia.

“A lot of the early Basel III-compliant deals priced not far from the levels we were seeing on outstanding old-style notes, both domestically and offshore,” van Klaveren continues. “We may have more interest now, at least when we see what we feel is a fair premium over the old securities.”

issuance prospectsBendigo-Adelaide’s leads are confident that the deal will open the door for a wider wholesale market. Johnson suggests: “This trade was a key test of institutional support, and there has clearly been a real change in view on the part of local funds. The result should give further confidence that funds will step up for tier-two issuance from trusted and familiar local bank credits.”

Australian banks may have a natural desire to promote wholesale tier-two issuance: there has been much discussion about the capacity of the Australian dollar retail market to continue to absorb banks’ aggregate requirements for tier-one and tier-two securities.

“funds have become more famIlIar wIth new-style tIer-two securItIes, and the feedbacK we receIved In the fInal Quarter of 2013 and Into the new year gave us a lot of confIdence that they would support an InstItutIonal deal.”MiCHAel Cluskey GOlDMaN saCHs

1 8 | K A N G A N E W S f E b r u A r y 2 0 1 4

KangaTrendsKangaMacGonigal believes banks will

remain conscious of this issue and that their conclusion is predictable. As a consequence of franking rules which make retail a more efficient home for tier one, the tier-two market will gravitate to the institutional sector.

Whether Bendigo-Adelaide will be followed by its larger peers to the AUD institutional market for tier-two capital remains to be seen, though. Cluskey suggests that the value of diversification will likely make all of the AUD-, euro- and

US dollar-denominated options live ones for the majors. Other intermediaries have suggested there would be no shortage of offshore demand for Australian bank tier-two notes, and there may not be a clear relative-value winner.

“It is hard to say whether a big four bank would get better cost of funds for tier two domestically or offshore at present,” Cluskey tells KangaNews. “It is certainly true that banks in the AA- range are getting good value for tier two in offshore markets.”

Meanwhile, Bendigo-Adelaide is comfortable with a wholesale funding profile focused on the Australian dollar markets, including senior-unsecured and securitised as well as capital instruments. Rayner says the bank remains willing to respond to demand factors. It therefore does not rule out either foreign-currency or fixed-rate issuance, but at present the bank is confident about meeting its limited wholesale-funding and capital needs in its home currency. In this context the complementary support of offshore investors for AUD deals adds a further positive factor.

At the same time, MacGonigal suggests the Bendigo-Adelaide deal laid

down an appealing pricing marker for domestic issuance – potentially allowing it to replace 10-year bullet US dollar securities as the expected best wholesale option even for the Australian majors. “I think this transaction has recalibrated expectations around domestic institutional pricing,” he suggests.

MacGonigal tells KangaNews that Bendigo-Adelaide’s margin came in at around 2.25 times the bank’s senior curve, which at secondary rates at the time of pricing would imply a tier-two margin for

major banks of less than 200 basis points over bank bills.

At a level like this, the issue for the majors could be capacity. The new-style wholesale market in Australia has yet to be tested for a jumbo transaction in the A$1 billion region. And some domestic investors suggest that the extrapolation of Bendigo-Adelaide’s pricing to major bank sub-debt issuance at sub-200 basis point margins would likely stretch the relative-value equation beyond their comfort zone.

Price notwithstanding, Holt says there is potential for larger-volume issuance in Australian dollars. Bendigo-Adelaide attracted a A$750 million book despite being a less-prominent global name than the big four, and the fact that it did not offer the preferred format for Asian private-bank investors: fixed-rate and with rebate paid. Holt believes a fixed-rate tier-two offering from a major bank could easily find a larger bid both domestically and offshore.

In terms of wholesale liquidity of new-style tier two, van Klaveren confirms that pricing on the Bendigo-Adelaide deal tightened in very early trading. But he adds: “It will be interesting to see how

liquidity evolves in the market once the immediate ‘honeymoon period’ is over.”

Format settledThe Australian tier-two structure appears to be largely established, whether in retail or wholesale format, with the latest transaction differing little from the three issued in 2013. “The only material difference between our deal and the prior ones is the lack of listing and the institutional focus,” Rayner confirms. “The market was able to get confidence

around the structure very early while our credit is highly regarded and well understood, which meant the process was one of establishing fair margin.”

However, the Australian market may not yet have reached final resolution of the issue around convertibility of new-style tier two. Some fixed-income mandates struggle with conversion to equity, although as it has become increasingly clear that conversion would be the standard form of loss absorption for AUD issuance many investors have addressed this issue with their clients.

In addition, Suncorp’s 2013 tier-two deal introduced the use of a nominee account for receipt of equity, allowing fixed-income investors to receive cash value rather than shares in the event of conversion.

Nonetheless, investor sources suggest some buyers’ bid sizes may have been constrained by mandate issues – with, for instance, convertible securities potentially only being eligible for credit or multi-asset portfolios as opposed to fixed-income books. However, there is no suggestion that this issue damaged the volume of the Bendigo-Adelaide deal – and may in fact have improved its granularity. •

“a lot of the early basel III-complIant deals prIced not far from the levels we were seeIng on outstandIng old-style notes, both domestIcally and offshore. we may have more Interest now, at least when we see what we feel Is a faIr premIum over the old securItIes.”TiM VAn klAVeren UBs GlOBal asset MaNaGeMeNt

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NZdmo ANNouNces Reduced FuNdiNg exPectAtioN but ReAFFiRms iib commitmeNt

The new Zealand debt management office (nZdmo)’s funding

programme for 2013/14 has been reduced – by nZ$2 billion (us$1.6 billion), to nZ$8 billion – following new Zealand’s half-year economic and fiscal update (hyefu). the funding update, which was published on december 17 last year, also reaffirms the nZdmo’s commitment to issuing up to nZ$5 billion of its current-year requirement in the form of inflation-indexed bonds (IIbs).

at the same time as it published its updated funding requirement, the

nZdmo disclosed its tender schedule for the first quarter of calendar 2014. this revealed planned issuance of an equal volume of nominal bonds and IIbs, with two tenders for nZ$200 million of each asset class slated.

the reduced funding requirement comes on the back of what the nZdmo calls “a stronger cash position from the 2012/13 year and further improvements forecast in the current fiscal year”. the forecast funding requirement drop is actually nZ$5 billion: as well as the nZ$2 billion planned issuance reduction the nZdmo also announced plans to

repurchase up to nZ$3 billion of its outstanding april 2015 nominal bond in the second half of 2013/14.

the nZdmo has also shelved plans to debut a new april 2027 nominal bond. the sovereign debt management agency says this line’s introduction, originally planned for the current financial year, “will now be delayed until 2014/15 at the earliest”.

nZdmo issuance is forecast to decline further. the hyefu-updated projections are for nZ$7 billion of issuance in each of 2014/15 and 2015/16, followed by nZ$6 billion in each of the two out years. •

Kauri market starts early as NZ domestic prospects rise

eDC priced NZ$300 million (US$246.4 million) of five-year Kauri bonds – the issue sized to

demand – at 69 basis points over New Zealand government bonds (NZGBs) or 25 basis points over mid-swap, on January 10.

The transaction marked a particularly timely fashion for Kauri issuance to get under way compared with market-opening deals priced in previous years (see table on p20). However, Tom Irving, managing director and head of Asia syndicate at TD Securities in Singapore – a lead manager on the EDC transaction with Westpac Institutional Bank (Westpac) – says several factors contributed to demand and made timing a less relevant factor.

“There has been a strong bid for NZD paper over the [southern hemisphere] summer period. This is due to both support for NZ rates products as a result of reduced expected NZGB issuance, as well as reduced potential Kauri supply on the back of a tighter basis swap market,” Irving explains.

Kauri momentum was maintained in the wake of the EDC transaction with two further deals pricing before the end of January. Nordic Investment Bank (NIB) sold NZ$425 million of new five-year notes on January 10, at 70 basis points over NZGBs or 27 basis points over swap. Then, on January 23, Kommunalbanken Norway (KBN) returned to the Kauri market with a NZ$200 million tap of its

December 2017 maturity, priced at 69 basis points over government bonds or 35 basis points over swap.

In the wake of the EDC transaction, Mike Faville, Auckland-based head of debt capital markets at BNZ, highlighted the opening of a window for Kauri issuance based on market economics, which he said might lead to a flurry of similar issuance.

“Swap spreads have widened quite considerably in recent times. This is particularly helpful for Kauri issuance and, to this end, we expect a number of Kauri issuers to tap the market in the near future,” he says.

According to Dean Spicer, head of capital markets New Zealand at ANZ

Optimism is rising that 2014 will be a solid year for the New Zealand dollar markets after Kauri issuer Export Development Corporation (EDC) (AAA/Aaa) became the first borrower to dip its toe in the water. With the outlook for domestic issuance in 2014 broadly believed to be more positive than it was for 2013, and signs that Kauri momentum from last year may be maintained, intermediaries say the ingredients are there for a bumper new-issuance year in New Zealand.

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KangaTrendsKanga

in Wellington, there are other signs of significant interest in New Zealand dollars via the Kauri market. “The market has kicked into action early in the year, including an active secondary market. We expect this to drive further new-issue activity,” he notes.

supply/demand imbalanceIn fact, Spicer sees strong demand for New Zealand product during 2014

across a diverse range of opportunities – provided the market goes some way to getting through the domestic credit supply issues which have dogged it for some months. “We are seeing strong demand for domestic corporate bonds and we have for some time. However, corporate supply has been somewhat less than we would have liked to see,” he reveals.

Intermediaries point to several reasons why New Zealand demand remains robust. Faville says the lowering of the New Zealand Debt Management Office (NZDMO)’s 2013/14 domestic bond programme, to NZ$8 billion from NZ$10 billion (see story on p19), implies that “investors looking for NZD-

denominated product will have to look elsewhere for alternatives”.

Meanwhile, Alastair White, Auckland-based director, debt and hybrid securities at Westpac, notes that significant maturities are scheduled to fall due this year – leading to an expectation that investors will be looking to shore up assets in anticipation.

White also notes solid appetite from investors, including some global

names new to New Zealand issuance. “There seems to be good investor appetite and from some quarters which traditionally we have not seen. This is also encouraging.”

BNZ is positive on the pipeline of potential domestic issuance outside of the Kauri market. “There is some reasonably healthy refinancing to be done this year. The Local Government Funding Agency and Auckland Council continue to have funding needs and, with yields having moved higher, the prospects for retail issuance are very positive too,” says Faville.

Spicer agrees. He adds: “There was also quite a bit of activity in the equity market last year and the retail bond market didn’t quite hit supply targets. But with

interest rates improving and providing the incentive on a yield basis, we hope that activity will pick up in 2014.”

kauri outlookIn the wake of the NIB and KBN Kauri transactions, intermediaries suggested that a number of other high-grade borrowers were looking to follow EDC into the New Zealand dollar market. Whether they can be persuaded to issue

is a case of pricing, says White. “Swap spreads have worked in [Kauri issuers’] favour so it is a case of mobilising them early in the calendar year to make the most of the opportunities,” he explains.

If further evidence of demand for NZD assets is needed, EDC’s latest transaction is its third-largest Kauri bond ever. This leads to some hope that 2014 can continue the trend, seen in the preceding year, for substantial Kauri deal volumes. In 2013 a total of NZ$5.5 billion of Kauris priced, an all-time record and more than double the issuance from any single year since 2008.

But while from a demand perspective 2014 prospects are promising, Faville cautions that available supply may not match demand given the likely fluctuations in deal economics for global borrowers. “Can we hit issuers’ price targets? Yes, some of the time. But it is a bit harder on other occasions,” he suggests. •

mARKet-oPeNiNg KAuRi deAls siNce 2008

PriCing dATe issuer size (nz$M) MATuriTy dATe sPreAd To nzgB (BP)

sPreAd To swAP (BP)

10 Jan 14 export Development Canada 300 24 Jan 19 69.0 25

17 Jan 13 asian Development Bank 400 20 Jul 17 58.7 27

8 Feb 12 World Bank 325 16 aug 16 80.8 29

7 Feb 11 Rentenbank 50 23 sep 14 35.0 54

21 Jan 10 asian Development Bank 225 29 Jan 14 62.0 22

3 Jun 09 Council of europe Development Bank 150 1 Oct 14 31.5 55

18 Jan 08 export Development Canada 100 30 Nov 10 97.8 25

SourcE: KANGANEWS JANuAry 13 2014

“we are seeIng strong demand for domestIc corporate bonds and we have for some tIme. however, corporate supply has been somewhat less than we would have lIKed to see.”deAn sPiCer ANz

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Fonterra returns as Dim Sum market goes multinationalThe size and tenor of the second Dim Sum bond issued by Fonterra Co-operative Group (Fonterra) highlights the significant development in the market in recent years. This development, say intermediaries, means the market is edging closer to participants being able to access Dim Sum liquidity for global funding purposes.

Fonterra blazed the trail for Australian and New Zealand corporate issuers in the Dim Sum market in June 2011, bringing a CNH300 million

(US$49.6 million) three-year debut. At a CNH1.25 billion final size, Fonterra’s second deal is not only the largest but, with a five-year maturity, the longest to be placed in the market by an Australasian-origin issuer.

According to the issuer, the bonds refinance existing bank debt and fund projects that Fonterra has already

announced, including further expanding its consumer, food service and farming operations in China.

The transaction takes the development of Dim Sum issuance by Australasian credits a step further. In August 2012, ANZ Banking Group set the previous record for volume in such deals with its second Dim Sum bond. The bank sold CNH1 billion of three-year paper in that transaction, the proceeds of which it swapped out for group funding purposes – itself a breakthrough for Australasian issuers in the market.

Changed environment Gerard Field, Auckland-based head of global markets and banking at HSBC

New Zealand – which led Fonterra’s follow-up transaction with Citi and was sole lead manager on its first – describes the stark difference in issuance conditions that Fonterra experienced on its return to the market.

“Fonterra’s first Dim Sum bond had a hugely oversubscribed order book and we printed at an all-time low coupon. But back then it was an FX play for investors, on CNH appreciating against the USD. Now the Dim Sum market is a true bond market that is priced for risk, not appreciation.”

China continues to be a key strategic market for Fonterra. The decision to issue Dim Sum bonds is part of its treasury’s diversified funding strategy, says Lukas Paravicini, chief financial officer at Fonterra in Auckland.

“The market has noticeably matured in recent years,” Paravicini adds. “The investor universe has broadened and liquidity has improved, as has supply. We believe the very strong investor interest that we received was a combination of investors seeking exposure to the Fonterra brand and the dairy sector, supported by Fonterra’s strong credit rating.”

Ollie Williams, director, capital markets origination at Citi in Sydney, agrees that the Dim Sum environment has

evolved in recent years. “We’ve certainly seen the renminbi market develop strongly in terms of the volume, pricing and tenors achievable for Australasian issuers – thus it is very attractive on a number of fronts.”

He continues: “The market’s increasingly broad investor base now also makes this an attractive source of funding for borrowers that are seeking sizeable volumes – of CNH750 million to CNH1 billion or more. And despite previously being more concentrated around the 2-3 year part of the curve, the Dim Sum market has become much more accessible

to borrowers seeking longer-dated funding – as Fonterra’s successful new five-year benchmark demonstrated.”

window of executionPrior to launching the transaction, Fonterra undertook a comprehensive marketing exercise in Hong Kong and Singapore in October last year, which Williams says laid the foundation for the company’s return to CNH issuance. The market has seen a busy supply calendar since the beginning of 2014, and Fonterra was able to capitalise on the strong momentum and appetite for high-quality international borrowers to find an appropriate window of execution in January.

“at thIs stage we don’t see the same lIQuIdIty In the longer-term Interest rate swap marKet that you would looK for to consIder repatrIatIng the proceeds to our domestIc currency. but thIs Is not to say that In the future It won’t become an optIon.”lukAs PArAViCini FONteRRa CO-OpeRative GROUp

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KangaTrendsKangaAnnounced as a benchmark – or

CNH750 million to CNH1 billion – transaction, KangaNews understands that Fonterra’s size target was the top of this range. It was still able to upsize by CNH250 million and price with a coupon of 3.6 per cent, the tight end of guidance. In fact, the coupon was tightened by 15 basis points throughout the bookbuild process after final interest approached CNH2.5 billion.

Field says Fonterra has sent out a strong signal to its investor base that CNH is a currency it will continue to issue. “Investors have been very keen to see Fonterra return to the market – and the strong order book Fonterra received this time clearly demonstrates this.”

Distribution data show that fund managers were the driving force behind the transaction at 85 per cent, with banks taking a further 12 per cent and private banks and others the remainder. Asia Pacific accounts dominated at around 98 per cent.

Multinational reach Sean Henderson, managing director and head of debt capital markets Australia at HSBC in Sydney, suggests the other noteworthy development in the Dim Sum market over recent years has been the increasing quantity of issuance in CNH by multinational corporates. “A few years ago seeing a multinational in the Dim Sum market was a rare proposition. But global corporate borrowers are increasingly seeing CNH as a core piece of their funding strategy,” he comments.

Henderson expects to see more borrowers funding in CNH even if they

have no natural business use for the currency.

He explains: “The majority of companies that have funded in CNH have done so to finance their Chinese operations. However, with improving liquidity and pricing in the swap market, it is becoming increasingly competitive to swap proceeds back to USD. I expect this will become another driver for issuance as corporates look to diversify their investor base into Asia and to establish themselves in this key global currency.”

In fact, according to Field, there have already been instances where companies have issued in CNH and swapped back to their home currency. “We recently saw an issuer out of Mexico do this. It is

happening and I believe it will become more prevalent.”

For the time being, Paravicini says Fonterra expects to continue using CNH proceeds to strengthen and support its businesses in China. “At this stage we don’t see the same liquidity in the longer-term interest rate swap market that you would look for to consider repatriating the proceeds to our domestic currency. But this is not to say that in the future it won’t become an option.”

While adding that Fonterra continues to monitor all global markets for issuance opportunities, Paravicini says the firm sees the benefit in being a regular issuer in markets aligned with its strategic focus as a company.

“Fonterra regularly updates existing and prospective bond investors on the business, even on a non-deal basis. We understand investors’ preference for consistent supply and an open dialogue. If this is provided investors are more willing

to carry out the credit work and issuers are more likely to receive strong support when they bring their deals to market.”

Williams adds that issuers, especially those with onshore funding needs in renminbi, would be well advised to monitor the Dim Sum market going forward.

“The Dim Sum market represents compelling financing when compared with other renminbi sources away from the debt capital markets. Issuers, especially those with onshore funding needs in CNH, should certainly take a very good look at this type of transaction in light of the attractive pricing, sizing and duration currently on offer,” Williams tells KangaNews.

Other Australian- and New Zealand-origin corporates are already actively monitoring the market, confirms Henderson. However, in the near term he says the market is more likely to see steady growth rather than a flood of issuance.

“The dialogue and interest in the currency has picked up enormously in the last couple of years. However, not all companies need the currency – or funding – right away,” he adds.

Field is also convinced of the market’s potential to carry on growing in size and relevance to global borrowers. He comments: “Three years ago when we did the first bond for Fonterra, the benchmark size was CNH500 million and three years was the maximum tenor. Now we have seen benchmark sizes grow to CNH1 billion and tenors extend. In fact, only last week we saw Export-Import Bank of Korea bring a five- and 10-year transaction to the Dim Sum market.” •

“a few years ago seeIng a multInatIonal In the dIm sum marKet was a rare proposItIon. but, IncreasIngly, global corporate borrowers are seeIng cnh as a core pIece of theIr fundIng strategy.”seAn Henderson HsBC