Plenty more issuance but strong starting position for NZDM

Successive New Zealand governments have had a focus on fiscal sustainability and reducing debt relative to GDP. This is particularly pertinent as New Zealand is a small, open economy that is subject to natural disasters. Further, this has ensured a significant fiscal buffer in the event of a shock.

Before the onset of the COVID-19 pandemic, net core Crown debt was just less than 20 per cent of GDP. To date, fiscal stimulus measures, alongside the expected softer tax take, have led to an additional NZ$19 billion (US$12.3 billion) of New Zealand government bond (NZGB) issuance, or about 6 per cent of GDP, relative to what was expected in February.

Based on the May 2020 budget economic and fiscal update (BEFU), sovereign debt is expected to increase substantially over the period from the end of June 2019 to the end of June 2024. Forecast gross NZGB issuance is about NZ$150 billion higher than forecast at the 2019 half-year economic and fiscal update (HYEFU).

The increased issuance is weighted towards the early part of the forecast period. This is due to the timing of the government’s response to the COVID-19 shock and, as NZDM increases the forecast cash buffer, to manage funding and liquidity risks at a time of heightened uncertainty.

As a proportion of GDP, net debt is forecast to increase to just less than 55 per cent in June 2023 from 19 per cent in June 2019, before stabilising at that level. Over the longer-term projection period – June 2024 to June 2034 – net debt as a share of GDP is modelled to be on a gradually declining trend.

With no known community transmission in New Zealand, the economy is essentially reopening and operating close to business as usual, with the exception being international borders remaining largely closed.

The 2020 BEFU forecasts assumed the economy will be operating at alert level one – the current situation – or alert level two – meaning slightly stricter rules regarding hospitality, group sizes, and contact tracing – until March 2021, when the borders are assumed to reopen.

While this assumption remains reasonable it will be reviewed, alongside the sovereign funding plans, at the pre-election economic and fiscal update in August. The general election is scheduled for 19 September 2020.

Forecast annual issuance of NZ$60 billion will be a record, surpassing the previous high of NZ$20 billion in 2011 that came following the Canterbury earthquakes.

We have made material changes to the funding strategy but our core principles of transparency, consistency and even-handedness remain unchanged. We continue to provide investors with as much certainty as possible while allowing ourselves additional flexibility to respond to economic and market developments.

We now release full tender schedules ahead of each month, rather than each quarter, and we offer multiple bonds at each tender rather than just one. We continue to announce expected syndications at economic and fiscal updates with further information, such as the maturity date, disclosed preceding deals and alongside tender schedules.

Syndication will play a key role in meeting our funding requirements. We are now undertaking them on a more frequent basis. There were two in the June 2020 quarter and we expect a further two in the current quarter.

In addition, we have increased individual nominal bond-line caps to NZ$18 billion from NZ$12 billion. This provides further flexibility within the existing nominal NZGB portfolio.

In April, we undertook a tap syndication, for the first time, of the May 2031 nominal bond. We chose a tap syndication targeting the new 10-year benchmark so as to issue a sizeable volume prior to the maturity of the April 2020 nominal NZGB. Overall, we issued NZ$3.5 billion out of a total book size of more than NZ$5 billion.

In June, we syndicated a new May 2024 nominal bond. Market dynamics and feedback indicated there was appetite for a shorter-dated issue. The total book was more than NZ$14 billion – significantly more than any previous NZGB deal. We ultimately issued NZ$7 billion.

We were very pleased with participation in both deals, which had a good mix of investors across geographic regions and by type. It was also encouraging to see the breadth of names, some of which we had not seen participate in previous syndications.

Our primary funding instrument remains the nominal NZGB, which accounts for NZ$58-59 billion of the 2020/21 forecast issuance. Treasury bills on issue at end-June 2021 are also forecast to be higher, at NZ$10 billion relative to the NZ$4 billion forecast at HYEFU 2019.

Inflation-indexed bonds (IIB) remain an important part of the borrowing programme. We intend to issue around NZ$1-2 billion of IIBs in 2020/21, up from around NZ$400 million in 2019/20. The proportion of IIBs in the total NZGB portfolio is forecast to decline to less than 15 per cent by end-June 2021, but it intentionally remains high relative to many sovereign peers.

We continue to focus on New Zealand dollar denominated issuance to maximise liquidity in existing securities. New Zealand dollar funding instruments also continue to be more cost-effective than foreign-currency issuance. However, we now have a small volume of short-dated foreign-currency euro commercial paper on issue, which we plan to maintain. Documentation for a long-dated euro MTN programme is also up to date, should it be required.

The downward trend over recent years has coincided with the narrowing of NZGB spreads to many peers, such as US Treasuries. However, in recent months the proportion of NZGBs held offshore has stabilised at around 50 per cent. Since May, NZGB yields have increased relative to key peers such as US Treasuries and Australian Commonwealth government bonds.

Investors will always make their own relative-value judgements. However, anecdotally we hear from offshore investors that any decrease in holdings of NZGBs is not a reflection of concerns regarding the New Zealand sovereign credit.

Consistent with this view, New Zealand is one of the few countries to have the positive outlook on its credit ratings affirmed since the onset of the COVID-19 crisis. S&P Global Ratings and Moody’s Investors Service reaffirmed New Zealand’s long-term local credit ratings, at AA+ with a positive outlook and Aaa with a stable outlook.

We undertake frequent interaction with our global investor base as part of our structured investor-engagement strategy. While the current environment means some of the usual engagement methods have been restricted, we have been impressed by how effective engagements via virtual platforms have been.

In BEFU 2020, much of the government’s new spending was targeted at those most affected by COVID-19. The aim of the measures is to prioritise the wellbeing of current and future generations of New Zealanders, consistent with the government’s wellbeing objectives.

New Zealand is among the most highly rated sovereigns in the world on various independent sustainability and ESG metrics. These include a 2020 UN Sustainable Development Goals rank of 16 out of 193 countries.

In this context, we have no imminent plans to issue bonds in a specific ESG format, though we continue to investigate the contribution NZDM can make to supporting ESG outcomes. We continue to pursue a holistic approach and are aware of the contribution efficient debt funding can make to support the government in achieving ESG objectives.