As part of its journey back to prosperity after a severe recession, Iceland made a belated return to the international markets with a successful bond issuance. David Wigan reports.

Bjarni Benediktsson

Relative to the size of its economy, Iceland’s financial crisis was the largest in the world. The country plunged into recession after its three largest banks collapsed with debts equalling 1000% of gross domestic product (GDP). Following an International Monetary Fund bailout, capital controls and bank nationalisations, Iceland eventually found a path to recovery. A return to growth ensued, and in December 2017 it issued its first international bond in three years.

Over the past eight years, Iceland’s population of 340,000 has been subject to a wide variety of fiscal and monetary policies. The process began with tax increases and spending cuts, followed by debt write-offs and a currency devaluation of as much as 60%. The initial result was a 7% fall in GDP, but the cheap krona led to a relatively quick transition from a ruined economy to a tourism boom. In 2016 the economy expanded by 7.2%, and with the government predicting about 5% growth for 2017, the future continues to look bright.

“A few factors characterise the current situation, including a solid internal and external balance, continued predictions for growth in 2018 and onwards, and solid tax and VAT income,” says Bjarni Benediktsson, Iceland’s prime minister until November 2017’s parliamentary elections and now its finance minister. “The tourism sector has had a big impact and we are expecting 18% growth in tourism to about 2.5 million visitors in 2018.”

Bringing down debt

In its December fiscal policy statement for the coming five years, Iceland’s government said its principal objective was a sizeable public sector surplus of about 3% of GDP a year, which should restrain an economy which, while nimble, is still susceptible to overheating. At the same time, the government will continue its work to reduce public debt, according to Mr Benediktsson, “to ensure that the Treasury will have the means to respond to shocks”.

“We were very worried after the financial crisis about the balance of payments, but we are now coming down to a ratio of net debt to GDP of about 35%, which we would like to see reduced to 30%,” he says. “However, we still have a significant interest rate burden.” 

Not surprisingly, Iceland’s cost of borrowing has been relatively punishing of late, with the country paying over the odds on its occasional forays into international markets and operating under a domestic benchmark rate that is currently 4.25%. While it was weighing up tapping international markets late in 2017, a priority was to ensure the country did not add to its interest obligations.

“We wanted to come back and to test the markets but we didn’t want to increase our overall debt,” says Mr Benediktsson. “With that in mind, we decided that alongside any issuance we would do a tender offer, so that we could clean up the balance sheet and pay less interest in the coming years.”

Officials decided to proceed with the new international bond, and on December 6 said they had mandated Barclays, Deutsche Bank, Nomura and Citi as joint lead managers to market a five-year euro-denominated benchmark. Alongside the new issue, the Treasury made a buyback offer for the €750m six-year bond issued in 2014.

Rating lift

An added incentive for the country’s plans arrived on December 8 in the form of an upgrade from Fitch, which lifted Iceland’s long-term foreign currency issuer rating to A from A-, citing a decline in external vulnerability, the end of capital controls and impressive debt reduction. Iceland’s per capita income of $72,000 and ease of doing business were consistent with AAA- and AA rated countries, the agency noted.

In the same week, roadshows were held in London, and the transaction launched the following Wednesday morning at initial price talk of 55 basis points (bps) over mid-swaps (compared with more than 200bps over mid-swaps in the 2014 sale).

Investors were enthusiastic from the start; the book built to €2.2bn in little more than an hour and closed half-an-hour later at €4.2bn. As orders flowed in, the banks tightened guidance, eventually printing €500m of bonds at 35bps over mid-swaps, against an order book of €3.9bn. Buyers comprised a high number of UK-based institutions (40%), with most of the remainder coming from continental Europe and Asia. The tender offer was also well received: owners holding €397.6bn of nominal bonds accepted the offer, having been granted priority allocations in the new issue.

“This sale was a milestone for the Treasury, which has never borrowed funds on more favourable terms,” says Mr Benediktsson. “Investors’ response was well in excess of expectations, with demand outstripping supply by a factor of eight. It is also satisfying to note that the bond has continued to tighten in the secondary market.”

With its balanced budget, there is little need for Iceland to return to the capital markets any time soon, and Mr Benediktsson adds there are no immediate plans for further issuance. Nevertheless, the country will not be away for too long, he says, to ensure Iceland maintains a liquid offering and its rediscovered warm relationship with investors.


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