At the end of the third quarter of a tumultuous year for global markets, Yuriy Popovych, director, syndicate at TD Securities in Singapore, casts an eye over the global supranational, sovereign and agency (SSA) funding sector and discusses the trends shaping it.
It has been a momentous year for all sectors and markets. What have the supply and demand drivers been for SSAs?
We have seen some big impacts on markets this year caused by the COVID-19 pandemic and subsequent reaction from central banks and governments around the globe. No-one was expecting anything like this, so investors and borrowers have had to adjust their expectations and react accordingly.
One of the immediate impacts we saw was an increase in the funding programmes of many borrowers in response to measures taken to help battle the effects of the pandemic. Coupled with expected market volatility toward the end of the year driven by the US election, borrowers were keen to get underway as soon as markets started to stabilise at the end of March. We knew summer could be busy for issuance given shortened issuance windows this year.
The core markets – euros and US dollars – have accounted for a large proportion of SSA funding. Despite the pandemic and volatility, these markets have worked very well and continue to do so. Demand was very strong, particularly when spreads widened in March and April, while deals garnered record-breaking orderbooks that in several instances were well above US$10 billion. We are now seeing a much more normalised level of subscription as spreads have stabilised.
Amid all this volatility, there have been pockets of opportunity for borrowers that have allowed them to execute funding plans in other currencies such as sterling, Australian, Canadian and New Zealand dollars, and others. However, in periods such as this borrowers typically go to the deepest, more liquid markets.
Now, as the majority of borrowers have nearly completed their funding for the year, funding-strategy focus is once again shifting toward currency and investor diversification.
How much of a factor has the upcoming US election been in borrowers’ funding plans?
The US election and potential pickup in market volatility around this period was expected. As such, borrowers were quick to get funding in the door early in the year. The large borrowers are around or more than 80 per cent finished with funding for 2020 [by mid-September]. The majority are very comfortable at this point but will continue to fund if the opportunity is there.
The initial COVID-19 weakness has been erased, spreads are competitive and the market is working well. So we continued to see borrowers active through August and September.
Australian dollar supply in 2020 has been down while other noncore SSA markets such as sterling, Canadian dollars and New Zealand dollars have performed well. The cross-currency basis swap has been difficult for Australian dollars, but what other dynamics are at play here?
It is not just the cross-currency basis swap making things difficult in Australia. In fact, the difference between Australian and New Zealand dollar five-year cross-currency basis at the end of September is only around 3 basis points, yet we have seen a lot more Kauri issuance over the last few months.
A few structural features of the Australian dollar market have also influenced demand for SSA paper. Some of the measures the RBA [Reserve Bank of Australia] has put in place since COVID-19 have been aimed at stabilising the ACGB [Australian Commonwealth government bond] and semi-government sectors, particularly as issuance from both has picked up. As such, there has been less demand from domestic accounts for SSA paper especially given it does not qualify as a high-quality liquid asset in Australia.
Relative value to local semi-government issuers remains an important consideration. But with rates at a record low, investors will continue looking for enhanced return via spread product and SSAs currently look interesting given attractive relative value to global markets. Secondary Australian dollar SSA paper is offering a 10-15 basis points pick-up to US dollar curves in mid-September and we have seen a number of accounts buying on the back of this.
Has there been any change to demand patterns within the SSA sector, for example more investors looking at double-A names or at borrowers they previously would not have?
We are seeing strong demand from investors across all names and, given the strength of the market, it is easier than usual to get trades done for less-frequent issuers. Given how tight tier-one SSA names are trading, investors welcome borrowers that offer additional spread.
Investors generally have been receptive and comfortable adding new names to their portfolios. The pool of global investors is very large and investors are quite accepting if a deal comes at the right valuation compared with peers.
We have seen this in Australian dollars, too. Investors have been looking for some of the triple-A and double-A names that offer more spread.
The lower-for-longer theme has been even further entrenched by central banks’ response to the pandemic. How strong is demand for SSAs at long tenor?
We have seen very strong demand for 10-year US dollar paper since the period of volatility in March. We saw a number of 10-year benchmarks in May and more recently a flurry of 10-year deals in August.
This is a function of the low-yield environment, tightening spreads and steeper curves – which push investors further out. The curve-extension theme is not new but has been exacerbated by COVID-19 and central banks easing monetary policy. If investors want yield, they need to go further out on the curve or down the credit spectrum.
In Australian dollars, we see pockets of demand in the long end of the curve and issuance in 10- and even 15-year tenors has been relatively active this year, in comparison to the shorter end. There has been a series of smaller, more regular taps from some of the usual borrowers and some also managed to set up modest-sized new benchmarks as well.
We have also seen several borrowers responding to reverse enquiries out of Japan for GSS [green, social and sustainability] bond issuance, so there are definitely opportunities in Australian dollars for issuers to get long-end funding from a distinct investor base.
However, we are still finding it tricky to build a public, broadly distributed trade given relative value to semi-governments in this part of the curve. Tier-one SSA paper is trading around 15 basis points through triple-A semis in 10 years, so it is a challenge for domestic investors to participate in deals and at the same time difficult for borrowers to justify the cost.
“The initial COVID-19 weakness has been erased, spreads are competitive and the market is working well. So we continued to see borrowers active through August and September.”
The EU has announced a significant funding programme in its own name. What impact might this have on the SSA market?
We know the EU has large funding needs, of around €850 billion (US$941.3 billion) between the SURE [support to mitigate unemployment risks in an emergency] and Next Generation EU programmes. It can only issue euro-denominated paper, but we don’t know exactly how this will look, the issuance strategy or how it could affect other SSA borrowers going forward.
A forthcoming flurry of euro issuance from the EU could encourage more European issuers to diversify into other markets such as US dollars. It is also encouraging some borrowers to access euro markets ahead of the EU commencing its funding.
Is there now greater interest from investors in the lending activities of SSAs as a result of the pandemic?
There have been a lot of discussions on the implications of COVID-19 for SSAs’ funding needs and lending programmes, and we have seen COVID-19-themed issuance in markets. This has been well received.
At the start of the pandemic, it was all about COVID-19 response and what needed to be done immediately. Now it is more about what happens in future and what projects are being funded by development banks to help recovery. Whether this is to help countries to live with COVID-19 or to invest in technology and infrastructure to fuel growth, these discussions are happening – and investors are very engaged.
What is the best way for SSAs to stay on the radar of investors in noncore markets while they cannot visit in person and may not be issuing as much?
This has affected everyone – it is a global issue. Borrowers and investors have had to adjust to this new reality and we have been pleasantly surprised at how receptive everyone has been to virtual roadshows and one-on-one update calls. Every issuer has its own approach, but generally borrowers and investors are willing to jump on a call for an update.
This can be especially useful for borrowers that have not issued in a market as frequently as they used to but still want to stay in front of investors. Most SSA borrowers are well established in most markets so investors do not necessarily need to hear from them all the time. Physical meetings are not possible but virtual marketing is a good solution and has been well received.