Tighter secondary market liquidity and more volatile interest rates make for a more challenging environment for the highest-rated issuers, but that has not stopped Deutsche Bank from leading two milestone deals already in 2014.

Sovereign, supranational and agency (SSA) is not the most glamorous of the primary fixed-income markets. Much of the time it is a high-volume, repetitive grind, rewarded largely by stress and thin margins. Given its fundamental role in the financial system and the energy it imparts to other issuance, SSA bankers think it deserves more recognition than it gets. Yet every now and then they pull off a deal that gets their tails up again – and Deutsche Bank has already done two this year.

Deutsche Bank has topped the primary rankings for western European SSA for some years, and last year clocked up 25% more deals than the bank that came second. Yet business is not quite as effortless as it once seemed to be. “There is more balance sheet pressure from regulators, and how you allocate capital across various asset classes has implications for risk appetite,” says Bill Northfield, Deutsche Bank’s head of SSA origination. “That translates into trading flows, and we have seen the impact in diminished liquidity in secondary. This may well increase this year.”

Mr Northfield notes that while US interest rates have a tightening bias, European and Japanese rates are headed in the other direction. “This lack of synchronised interest rate cycles could lead to more volatility,” he says. “While we have had rather steep [interest rate] curves, our research forecasts that we could be entering a more bearish, flattening mode.”

Emerging markets and Chinese growth rates have caused concern. Elsewhere, however, the macroeconomic outlook is positive, with improved sentiment towards the eurozone, and hence more appetite for higher yielding paper. “As investors move down the credit spectrum, that puts pressure on the pricing of our most expensive SSA clients,” Mr Northfield observes. “No new five-year supranational benchmark deal has priced sub-Libor for at least seven months. One-way CSAs also affect pricing across a range of hedging strategies.” Credit support annexes – CSAs – are one-way when an SSA declines to post collateral to the banks against derivatives contracts such as swaps used by SSAs to hedge interest rate or currency risk on bond issues. Many SSAs do so decline.

Seeking duration

The return to a state of relative normality in Europe was demonstrated in the European Investment Bank’s (EIB's) successful 10-year US dollar issue in January, its first for three years. It was lead managed by Deutsche Bank, with Barclays and Goldman Sachs.

Getting duration in dollars is a challenge for most issuers. The EIB could always, at a price, get a 10-year bond away in euros, but the last time it did so in dollars was in February 2011. “A 10-year is the holy grail of the dollar market,” says Mr Northfield. “All the stars have to align, so this was a reflection that things were feeling a lot better.”

It was in late 2013 that the team began thinking about all the elements that needed to be lined up to make such an issue work. EIB led the pack with the first SSA offering of the year – issuing in dollars. The evidence was not yet there for a bumper size in a 10-year maturity, so it began with a five-year and raised $4.5bn.

Two weeks later, the EIB went out with a widely expected new 10-year 2.125% euro benchmark deal. Having attracted an order book of €4.4bn, it printed €3bn, priced at mid-swaps plus 22 basis points (bps). Now it was ready for the longer dated dollar deal, though before it took the decision, as Mr Northfield says, the EIB "put us through the wringer”. The day after the euro 10-year transaction, the EIB surprised the market by launching a 10-year 3.25% dollar deal – 2014’s first. Though there were other issuers in the market – Asian Development Bank and French social security fund Cades – the underlying market was constructive and indications of interest on the first day totalled more than $2.75bn.

By the time the books were closed the following day, orders stood at $5.3bn. The deal was sized at $3.5bn and priced at mid-swaps plus 35bps. “The EIB could have waited for KfW to issue and used its transaction as a pricing reference,” says Adrien de Naurois, Deutsche Bank’s co-head of SSA syndicate. “But that could have negatively impacted the pricing.”

Irish milestone

Another milestone 10-year deal was Ireland’s first issue since exiting the EU-International Monetary Fund programme of financial assistance in December 2013, and the first syndicated European sovereign transaction of 2014. Deutsche Bank was lead manager, together with Barclays, Citi, Danske Bank, Davy and Morgan Stanley.

The determination with which Ireland has carried out its fiscal reconstruction has impressed the markets, with whom it has stayed in contact throughout. “This deal was always going to happen, but the question was when,” says Mr Northfield. “It was timed very well and capitalised on the first week of the year. It was the first big deal out there and it set the tone for the month.”

The deal attracted €9bn of demand in the first 45 minutes, including €1.5bn from the joint bookrunners. The book eventually exceeded €14bn. Ireland’s National Treasury Management Agency has said that it would raise €6bn to €10bn from the capital markets this year, having already prefunded 2014 and into the first quarter of 2015. The deal was part of its process of re-engagement with the markets, so it limited the size to €3.75bn, leaving room for a return to bond auctions as well. The coupon was a tighter than expected 3.4%, priced at 140bps over mid-swaps to yield 3.543%.

The enthusiastic response to the offering reinvigorated interest in other Ireland bonds, and yield on its existing March 2023 issue tightened by about 8bps while the new benchmark was being executed. Nearly 400 investors participated, with 83% from outside Ireland and a strong showing from pan-European and US real money accounts.

“It was a great result,” says Mr Northfield. “People understood that Ireland is here to stay, and Ireland got some of the best 10-year funding for the year. It also helped provide a favourable environment for Spain.” The Spanish government’s subsequent €10bn 10-year issue was four times oversubscribed.

Strong track record

Less recent deals can still remain cause for satisfaction. Mr de Naurois recalls a dual-tranche offering for the Japan Bank for International Cooperation in mid-2013. The bookrunners were Deutsche Bank, Barclays, Daiwa and Goldman Sachs. The five- and 10-year deal raised a combined $3.5bn, making it the largest ever US dollar bond issuance from a Japanese issuer. It was also the first time a Japanese SSA issuer had done a dual-tranche transaction. “This was the first Japanese government-guaranteed deal done offshore since the onset of Abenomics,” says Mr de Naurois. “It opened the market for all Japanese SSA names, guaranteed or non-guaranteed.”

In September, the team worked on what Mr de Naurois describes as one of his favourite trades of last year – a $3bn, 2.75% seven-year bond for German policy bank Kreditanstalt für Wiederaufbau (KfW), co-led with Goldman Sachs and Morgan Stanley.

“Seven years in US dollars is regarded as a challenging maturity,” says Mr de Naurois. As he explains, it falls between two investor stools. It does not directly target either the central bank and bank treasury pool that likes to participate in five-year deals, or the pension funds and insurance companies that will buy 10-year paper. So it is a twilight zone where it is hard to secure size.

This particular seven-year was made possible by the fact that a number of bank treasuries were extending duration at the time and needed dollar assets. “They provided the issuer with comfort that it could achieve that size,” says Mr de Naurois. “In fact, they put in their orders on condition it was a big deal. Bank treasuries need high quality assets for their liquidity buffers and they are very happy with KfW risk.”

Mr Northfield adds that bank treasuries are an increasingly important theme and have added momentum to some recent SSA deals. “For regulatory reasons, many banks are looking for high-quality liquid assets and are prepared to invest meaningfully in them,” he says. “We had some bank demand for the EIB 10-year – somewhat surprisingly, since banks don’t traditionally extend into the maturity.”


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