Conditions align for government issuers within Australia

A set of circumstances conducive to borrowing has characterised the Australian government sector in the last 12 months. A lower sovereign requirement, regulatory changes and benign market conditions have all provided tailwinds, even as the economy has slowed. KangaNews convened the sector’s largest issuers in Sydney in January to discuss the state of play.

  • Vince Cinquina Head of Financial Markets WESTERN AUSTRALIAN TREASURY CORPORATION
  • Jose Fajardo Head of Funding and Liquidity QUEENSLAND TREASURY CORPORATION
  • Kaylene Gulich Chief Executive Officer WESTERN AUSTRALIAN TREASURY CORPORATION
  • Richard Homberger Senior Risk Manager TREASURY CORPORATION OF VICTORIA
  • Andrew Kennedy Director, Treasury Services SOUTH AUSTRALIAN GOVERNMENT FUNDING AUTHORITY
  • Fiona Trigona Head of Funding and Balance Sheet NEW SOUTH WALES TREASURY CORPORATION
  • Matt Zaunmayr Senior Staff Writer KANGANEWS

Zaunmayr Liquidity and cost of funds have been favourable in the last 12 months. But has the falling Australian cash rate made it harder to find demand diversity – especially offshore?

NICHOLL Not really. We have noticed headwinds to demand based on negative spreads to US Treasuries but I do not think this has had a large impact on the diversity of our investor base.

In the last 18 months, one of the big things we have been following is the increase in Japanese capital allocated into the US and euro markets. This became evident when we went to Tokyo in November 2019. We have soft demand in our 20-year stocks. However, it does not seem to have affected the 2047.

TRIGONA We have not seen slowdown in demand at all. Investors are still looking for spread product and a pickup to Australian Commonwealth government bonds (ACGBs). New South Wales Treasury Corporation (TCorp) bonds are about 45 basis points over the 10-year ACGB and we are still seeing much interest.

This is still the maturity sweet spot and where we are receiving much demand, particularly from offshore. We have seen a pickup from Japan in the last few weeks. Demand was quite slow at the end of last year but we are now seeing more interest, domestically and offshore.

FAJARDO Spread as a percentage of yield illustrates the attractiveness of semi-government bonds well. When rates have fallen by approximately 150 basis points, a pickup of 50 basis points over the Commonwealth in 10-years is much bigger. This is enticing investors into semi-government product.

In 2019, we saw a deterioration of the global economy, driven largely by trade-related issues. This made markets challenging at times but there were also many tailwinds for the semi-government sector, such as spreads and the reduced AOFM [Australian Office of Financial Management] task, giving investors some comfort on the supply coming from the sector.

The clear evidence for me was that ourselves and TCorp were both successfully in the market, for a total of more than A$5 billion [US$3.4 billion], shortly after the release of our new borrowing programmes.

I agree with Rob Nicholl about offshore investors, in the sense that the Australia-US spread is not the only focus for some of them. In fact, offshore investors have driven a substantial amount of the reverse-enquiry issuance we have done in the 10-year part of the curve.

"We didn't see much change in behaviour from investors in our syndicated transactions or turnover data through 2019. But the committed liquidity facility changes have a long phase-in period and we think they will continue to offset increased supply over the next five years."

In 2019, we saw a deterioration of the global economy, driven largely by trade-related issues. This made markets challenging at times but there were also many tailwinds for the semi-government sector, such as spreads and the reduced AOFM [Australian Office of Financial Management] task, giving investors some comfort on the supply coming from the sector.
The clear evidence for me was that ourselves and TCorp were both successfully in the market, for a total of more than A$5 billion [US$3.4 billion], shortly after the release of our new borrowing programmes. 
I agree with Rob Nicholl about offshore investors, in the sense that the Australia-US spread is not the only focus for some of them. In fact, offshore investors have driven a substantial amount of the reverse-enquiry issuance we have done in the 10-year part of the curve.


GULICH Our experience is similar. The pricing we offer relative to the Commonwealth has kept demand strong.

HOMBERGER It’s true that international investors have typically been interested in the longer end. But we did a four-year deal in January 2020, 30 per cent of which went offshore. This was the highest allocation to offshore we have had for a while.

These investors were looking for yield and exposure to Australian dollars. Our transaction was timely in that supranational, sovereign and agency borrowers haven’t issued as much in the Kangaroo market as they typically would at this time of year. We probably took some of that demand.

KENNEDY It’s a slightly different story for us. We have had smaller offshore participation over the last 12-18 months due to the negative spread to US Treasuries and probably also due to some instability in the currency. Our last deal, in November 2019, was a 10-year and we were surprised that the offshore participation was not stronger, given what we had seen and heard about demand. This could have been down to timing.

The currency has stabilised now, so it will be interesting to see how offshore demand evolves. It looks as though the yield curve differentials are starting to hold up and investor interest has come back – as we saw with the TCV [Treasury Corporation of Victoria] deal in January.

NICHOLL An emerging issue for us 12 months ago was the cost of and access to repo. We had a lot of feedback last year, mostly from hedge funds, that the spike in repo rates was an issue.

Some investors said they were struggling to allocate if they did not have long-term access to repo facilities. These pressures seem to have eased in the last 6-8 months, though.

Unprecedented Disaster, Limited Impact

Catastrophic flooding, drought and bushfires ravaged Australia during 2019 and early 2020. State and sovereign borrowers outline the mechanisms that come into play to ensure funding requirements do not blow out as a result.

ZAUNMAYR Flooding, drought and bushfires have been prevalent over the last 12 months. Are investors asking the states about natural disasters? To what extent do these influence state and federal budgets and require additional funding?

NICHOLL Investors have asked about the impact of the recent bushfires. A couple of years ago, when there were large floods and cyclones in Queensland, the effect on GDP was about 0.6 per cent. This is large but it includes factors such as mine closures and other business interruptions. These events are complex and unique so it is difficult to make generalisations on outcomes.

TRIGONA New South Wales (NSW) has been one of the worst-affected states and we are still very much in the assessment phase. There are a few disaster funding arrangements. One is the disaster-relief funding aspect of the Commonwealth and state cost-sharing arrangement. This was announced with the prime minister’s A$2 billion (US$1.4 billion) relief package. All the states that need it will benefit from this.


We have had questions around what the bushfires mean for our credit rating and for Australia’s credit rating. This is not to downplay the impact of the bushfires on affected areas, but in the grand scheme, the overall effect on the economy will probably be minimal.


Zaunmayr How much have the changes to Australia’s committed liquidity facility (CLF) affected domestic demand for semi-government paper? Has this helped mitigate concerns about the sector’s higher aggregate requirement?

HOMBERGER It has provided some comfort to investors. Local banks will take up more bonds so the increased issuance from the semi-governments is not as much of a concern. The CLF announcement probably capped spreads when there was a perception they would widen due to increased supply.

Investor focus has moved instead to relative value and, as Jose Fajardo says, semis’ spread relative to the Commonwealth has been the main driver of increased interest from real-money managers as yields have fallen.

FAJARDO The announcement of the CLF changes was positive, particularly given the increase in supply from the semi-government sector amid slow bank balance-sheet growth.

This said, we did not see much change in behaviour from investors in our syndicated transactions or turnover data through 2019.

But the CLF changes have a long phase-in period and we think they will continue to offset the increased level of supply over the next five years.

TRIGONA Some of the deals we brought to market earlier in the financial year, such as our 2029 and 2031 transactions, had greater participation from fund managers than from banks because the managers and their institution were buying based on the level to ACGB, while the banks were focused on levels to swap.

HOMBERGER By number, major bank balance sheet participation in our January deal was small. Additionally, only one or two regional-bank balance sheets participated. I do not think it was in a part of the curve the majors tend to examine. One or two have been investing mid-curve and most have participated in the 10-12 year segment.

We have had interest in our 2034 from several major-bank balance sheets so there is potential for further migration out on the curve into liquid lines. This is a positive for all of us.

"As the task has fallen, our issuance has been concentrated around the futures contracts. Therefore, we are introducing fewer new maturities to maintain the same liquid volume in each bond line.


Zaunmayr The issuance trend is for less primary supply from the AOFM and more from the semis. How have issuers seen this play out in relative pricing and demand?

TRIGONA Some investors are looking at new-issue premia. The first deals we priced in this financial year had a new-issue premium of 1-2 basis points. However, there was none when we priced our sustainability bond in November 2019.

Demand and timing drive this. The first two deals came straight after our funding-task announcement, in which we indicated we would require A$13 billion from the market. We, and I think the market in general, expected spreads to push out. In fact, the opposite has happened. There is still strong demand, which has allowed for a lot of issuance this financial year.

FAJARDO There was a price response early in 2019 when all semi-government spreads moved wider based on expectations of a change in supply dynamics. However, the relative value of semi-governments as rates fell brought them back in.

We have been happy with the support we have received from investors and our panel banks. We had a book in excess of A$3.8 billion for a A$2.75 billion deal in our one syndicated transaction so far this financial year. This was the largest semi-government issue since our 2011 deal. Our tenders have also been well supported. Their average bid-to-cover ratio has been greater than three and they have had strong pricing outcomes.

CINQUINA Like most of the semi-government issuers, we benefited last year from the chase for yield. It is fair to say we have had outperformance against our peers on the back of revenue upsides and the news that our new borrowing requirement had been revised down to nil for this year at least.

Our pricing is quite tight to the triple-A semi-governments, which clearly reflects good news and positive expectations about what is happening in the state. Whether this performance continues depends on whether we can continue to deliver on those expectations, as we have over the last 12 months.

Zaunmayr Can we talk a little about how the new-issuance dynamic has affected investor relations, if at all?

TRIGONA The marketing the AOFM has done in recent years has helped open the sector to new investors. Our marketing effort has been consistent over the years and we are committed to building on our existing and new relationships in the future.

FAJARDO We have a longstanding domestic and offshore investor-relations programme. We do this irrespective of our borrowing programme or that of our peers. We look to maintain engagement across different regions and investor types. Last year, we spent some time marketing offshore in less-frequented regions and continued to strengthen relations with domestic investors. I see 2020 along similar lines.

Domestic real-money demand has been important over the last 12-24 months and a driver of our syndicated transactions’ success.

HOMBERGER We have been consistent in our investor relations, even when our task has been falling. When the budget is released each May, we undertake a roadshow through Europe, Asia and Australia. This was the case in past years, when the funding task was as little as A$2 billion, before growing to A$5 billion. Now, with some prefunding, it will be more than A$8 billion this year.

But our focus remains on communicating with investors to understand their needs then providing any updates as we become aware of material changes – even through reverse enquiry if requested.

"We learned a lot about investors through promotion of the AONIA-linked deals because we did a lot more one-on-one marketing than we typically would."

Zaunmayr Does the AOFM still believe it has a role in promoting the best outcome for the Australian government-issuer sector, even as its own investor relations task has eased?

NICHOLL We put an enormous effort in over six years to engage investors as we undertook yield-curve extension. At the end of that market-development phase, we made clear to investors that they may see less of us but that we would find different ways to keep them up to date.

We have done a lot of investor engagement through one-on-one teleconferences and videoconferences over the last two years. We did about 35 of these in late August 2019, for instance. They work well because we develop a briefing pack and highlight key messages in advance so participants can prepare queries. It is an efficient and effective way of maintaining engagement with investors we know.

Having said this, in November 2019 we went to north Asia, including a week in Tokyo, which we had not done for 18 months. Investors in some jurisdictions still need particular attention from time to time – and we are happy to provide it. Our message is straightforward but investors still have questions.

Investors like to get some update, even when our issuance task is relatively small – for example on how we are supporting liquidity, planned new maturities and the fiscal outlook.

We are certainly happy to take questions in relation to the semi-government sector and can explain the strong and well-established fiscal arrangements that support Australia as a federation.

Playing the QE waiting game

Market participants expect government-sector borrowers to be the primary beneficiaries if the Reserve Bank of Australia (RBA) does enact any form of QE in 2020. Issuers are not counting on it but agree that it is on the minds of investors, especially from offshore.

ZAUNMAYR QE is on the cards in Australia despite the reserve bank maintaining that there is a high bar to clear before it happens. Most market commentators speculate that, if QE does emerge, it would focus on government and semi-government bonds. Can government issuers pre-position for what must be considered at least possible?

HOMBERGER There isn’t much we could do to pre-position for an event that may or may not happen, given our job is to fund our state government. As the government has a call on cash, we will continue our normal task of funding that requirement.

NICHOLL We won’t know what, if anything, the RBA will do until we are in that world. The RBA would presumably guard its specific intentions extremely closely to keep market participants from front-running in any way.

On a recent investor trip, we were asked how likely it is that the RBA will engage in an Australian version of QE. Our response was that it is not an issue for the Australian Office of Financial Management (AOFM) to predict and there is plenty of publicly available information so others can make their own assessments.

What can be said is that should the RBA make this decision, it will do so after careful consideration of all the possible downside impacts of such action. Such effects could include the impact of the RBA as a government-bond buyer on market liquidity.

Zaunmayr How has the execution of the AOFM’s funding task changed to allow the continued provision of liquidity across what is now an extended curve?

NICHOLL As the task has fallen, our issuance has been concentrated around the futures contracts. This is where we see most demand, but it reflects a deliberate maintenance issuance pattern. We are introducing fewer new maturities to maintain the same liquid volume in each bond line. The market understands and appreciates this, I think.

We have stopped issuing new five-year bonds because there are large maturities rolling into the three-year futures basket. In the last couple of years, the focus has been on establishing large, new 12-year lines that will roll into the 10-year futures contract. We are now establishing one 12-year line a year, unless there is already one from when we did our curve extension.

Our aim is to support a 30-year curve, get more stock into the 20-year maturities when the opportunity arises and support overall liquidity through regular issuance and by maintaining large bond lines.

Syndication remains appropriate for ultra-long-end taps and new 30-year benchmark lines, like the planned 2051. However, large syndications for a new 12-year bond conflict with the goal of regular weekly issuance.

We think using large tenders is better than having to scale bids dramatically if we find ourselves with huge books but able to print only more modest deals.

Our buyback programme may look behind schedule but announced buyback volumes are guidance not targets. Balancing the task of managing large maturities against the interests of market efficiency and liquidity remains important.

Buybacks will continue to adjust with market conditions. We have repeatedly highlighted the fact that we will undertake buybacks if excess stock is available but that we also won’t push the market on this.

Zaunmayr What else is new in the area of investor relations?

KENNEDY Marketing our first AONIA [Australian overnight index average]-linked transactions was interesting. Investors are not all focused on the same part of the curve or the same issuers, so drawing new factors into the conversation certainly changes the direction of investor dialogue.

We learned a lot about investors through marketing the AONIA-linked deals because we did a lot more one-on-one marketing than we typically would. The process showed us that investors all have different horizons for their investments, the products they are looking at and regulatory considerations. We also discovered a lot of investors’ own governance and compliance issues.

We have these issues on our side but had not considered how they were affecting the different investor communities. This process gave us a lot of opportunity to get to know investors better than if we were undertaking a regular transaction, where we typically tell a high-level story and have limited active engagement. This was more about drilling down into businesses and finding investors’ tipping points for interest in a new product, as well as looking at what guides their investment decisions.

This changed the way we think about how we engage investors. We’ll take that with us when we see investors offshore as well. We want to be more sensitive to their driving factors, rather than just telling our story.

TRIGONA It has been a similar theme for us with our sustainability bond programme. Investors know us well and we regularly go out to meet with them. But it was interesting to be on the road and meeting with so many investors to get a handle on how their demand has changed over time. We realised how much the focus has shifted towards ESG [environmental, social and governance] themes.

Two years ago, it was nowhere near the level it is now. The diffference between when we did our green bond in 2018 and when we did our roadshow for the sustainability bond is indicative of how much investors’ views have changed. They want to work more closely with us on what we are issuing, what assets we are bringing in and what they can be involved with.

GULICH Our domestic marketing is focused around the budget and mid-year update. On offshore marketing, I agree that investors tend to be very familiar with the Australian and state government stories. However, we have noticed in our recent roadshows that they get a degree of misinformation through various media sources.

We had a series of questions in our recent offshore investor meetings – on how the market was performing, climate change, economic conditions and concerns around the Reserve Bank of Australia (RBA) and QE. Some of the questions reflected global media coverage that is not necessarily reputable or accurate.

"We have tried to explain that the RBA has been seeking to get ahead of the curve and strengthen the economy in response to global trends. However, we also stress that underneath this the Australian economy is still fundamentally strong."


Zaunmayr Is there anything specific that issuers have frequently had to address when it comes to misinformation?

GULICH Investors have been very keen to understand why there have been so many rate cuts in Australia and why QE is being talked of as a strong possibility. This has been a theme on roadshows in most regions. Investors want to know what they are missing and where the weakness is because from the outside looking in, the domestic economy may not seem as weak as monetary policy indicates.

We have tried to explain that the reserve bank has been seeking to get ahead of the curve and strengthen the economy in response to global trends. However, we also stress that, underneath this, the Australian economy is still fundamentally strong. We spend more time speaking about the global environment and how Western Australia (WA)’s economy fits in. There is always interest in Australia’s and WA’s exposure to China and the commodities story.

FAJARDO We are similar to WA in that investors focus on the size of our exposure to China via the resources sector. However, we always emphasise the diversity of Queensland’s economy, given no single sector in Queensland accounts for more than 14 per cent of output.

Zaunmayr What sort of questions do investors ask about the unusual combination of low rates and potential QE with a government commitment to delivering budget surplus?

NICHOLL There is definitely curiosity. In the last 12 months, we have had many questions about what is driving fiscal consolidation, which to my mind is clearly a revenue story against low outlay growth. For the Commonwealth, it is pretty much all tax – commodity prices play a part as does steady employment growth.

However, against this is low wages growth – more people are working but for wages that are not increasing as strongly as they were in the past.

We are then usually asked whether this is a cyclical or structural phenomenon. We say there is a bit of both, particularly in the commodities sector.

We received many questions in November 2019 about whether the government would introduce any fiscal stimulus to hold off the RBA cutting rates further. Our response is that the government has made a judgement that the economy does not need fiscal stimulus under current conditions.

The government is comfortable with real GDP growth, given the global and domestic context, and the budget is moving into surplus. From an RBA perspective, inflation is still below target and there is a paucity of private investment.

Public-sector investment is currently a large contributor to GDP, not because there has been a big lift in government expenditure but because there has been a drop off in private-sector investment. Then there is low growth in household consumption. It is a difficult story to read.

Investors often ask what is our greatest exposure and I think it is offshore. Australia is a medium-sized economy that is heavily trade exposed, so the downside risks appear to originate offshore rather than domestically.

KENNEDY We tell a global story then tie South Australia (SA) into it. The state of SA is only 7 per cent of the GDP of Australia so we look to focus on a few of the positive pieces – although we make sure we highlight the challenges, too.

Some of these positives have been government contracts for defence and space industry spending. There has also been a focus on building out the health and education sectors, which has been positively received.

SA did not have the same volatility in house prices that some of the other states have had, but there are challenges. We haven’t seen any pickup in the consumer sector and we have not had the same population growth as elsewhere. These factors combined have caused unemployment to rise.

I often describe SA as a canary in the coal mine for the rest of the country when it comes to picking where challenges for the economy might arise. If we do not see consumer data or housing turnover pick up nationally, there will be constraints on government.

TRIGONA We always get a lot of questions on housing. It may be different on our upcoming roadshow when, we assume, we will get a lot of questions on the bushfires.

For a long time, though, it was always about housing and how the downturn in New South Wales (NSW) and Victoria was affecting state revenue through stamp duty.

Zaunmayr What is the investor view on Australian housing? Are we in a goldilocks zone, where investors are not worried about a crash or a bubble?

TRIGONA House prices in NSW have risen by 8.2 per cent in the last six months but turnover is still well below the long-run average. I think investors still want to see some pickup in turnover.

New dwelling construction is also still down. In other words, while prices are going up, a big uptick in state revenue isn’t coming along with it. We think there will be gradual improvement in these other metrics, though.

HOMBERGER The surging housing market is a much smaller positive than it is perceived to be for the states because turnover has not matched the headline price rises. But stamp-duty revenue typically represents only about 10 per cent of Victoria’s total revenue pool – so the risks and rewards probably get too much relative airtime as well.

Zaunmayr Most of the states have significant ongoing infrastructure spending. How much interest do investors have in the specific projects and the productive effect they are expected to have?

HOMBERGER Investors don’t have so much interest in the individual projects but there is an understanding that the need for the infrastructure build is real. Population growth on the eastern seaboard has been strong for a while and governments are now trying to catch up.

These plans have been well communicated. There are not too many questions on the credit impact because the rating agencies usually cover it well and in a timely fashion. Victoria is coming from a debt-to-GSP ratio of less than 5 per cent and building to 12 per cent over time to get these projects in place.

This has been well communicated, as has the fact that the state is committed to working within triple-A rating metrics. There have been few changes in outlook or investor view.

TRIGONA Rating agencies and investors have been happy with the infrastructure investment, but they want it to be economic and productive. They may not need to know specific projects but they do like to know that they are productive.

GULICH We have found that investors want to know why our funding programme has not grown at the same pace as those of the other states. Our programme has held steady in recent years, although it’s a little smaller than the level of government investment over the previous boom period.

Tied to this, WA has not had the same population driver creating demand for new infrastructure as the eastern states. We can reassure investors, though, that WA is maintaining a high level of investment, particularly in road and rail infrastructure.

FAJARDO We have a smaller programme than NSW and Victoria. But it is still A$51.8 billion over four years so we speak with investors about capital spend, particularly on the larger projects. A good example is the Cross River Rail project. Once its productive nature is explained to investors, they are very comfortable. We have not had any negative feedback around the proposed capital spending.

"Our customers are building intergenerational infrastructure so they want as much long-term funding as they can get. We would like to investigate developing a liquid, 20-year benchmark - this would be a sweet spot for us."


Zaunmayr It seems like an ideal time to pursue curve extension. What are issuers’ goals here?

TRIGONA We had already been on a curve-lengthening strategy for the last few years. A lot of our borrowing clients are regulated utilities that need to fund in shorter tenors, though – which is why we have issued in that part of the curve this financial year. We will always look to issue longer if we can, but we need to meet client requirements. We do not have an ideal weighted-average life as such.

HOMBERGER Our customers are building intergenerational infrastructure so they want as much long-term funding as they can get. Over the last six months, our issuance focus has primarily been in 12- and 15-year bonds. We expect this to continue. We would like to investigate developing a liquid, 20-year benchmark – this would be a sweet spot for us.

FAJARDO Our strategy for some time has been to smooth and extend our maturity profile. This is primarily to manage refinancing risk rather than purely taking a view on rates.

Our strategy has been supported by increased investor demand for longer-dated bonds, given the low-rate environment. We aim to match demand to our clients’ borrowing needs, although we have flexibility in our balance sheet to be responsive.

GULICH WATC [Western Sustralian Treasury Corporation] issued a 15-year bond late in 2019, which we have built to about A$500 million. We are looking to lengthen our profile where we can get the underlying client demand. Having said this, we are looking to balance the issuance of new lines with providing enough liquidity in existing lines, given our smaller funding requirements.

KENNEDY SAFA [South Australian Government Financing Authority] does not have a target average duration for its debt issuance. We undertake an education piece with our internal clients to make sure they understand the debt they need to manage against their assets.

This is to ensure we are mitigating risk for the state. We are looking to match borrowing requirements and we are working with clients so they can identify exactly what those requirements are.

We can then tie this back into a borrowing programme where we have access to markets. We won’t step out to 15 or 20 years if investor demand is not there, though. We need to understand where the appetite is and work within the constraints of our balance sheet.

Zaunmayr Are there any circumstances under which the semi-governments would consider foreign-currency issuance?

FAJARDO We are always monitoring offshore currency levels but they have not worked for a long time. It is difficult to justify an additional 20-40 basis points to diversify funding when the Australian dollar market is so strong. There is greater focus on broadening the investor base in Australian dollars.

We receive enquiries from time to time and we will consider them if the basis swap works. We keep all our issuance programmes updated so we can be open to these opportunities.

Recently we have been able to do a lot of US commercial-paper issuance because the swap has worked, but there have not been any opportunities in term markets of late.

HOMBERGER We would not do it if it detracted from the liquidity of our benchmark programme. But we would consider foreign-currency issuance if it offered us an advantage in price or tenor that the domestic market was unable to provide.