Capital Markets: Emerging markets continue generating mixed signals

Issue in emerging markets
Investment grade EM borrowers continue to achieve positive demand.

Most notably, the Kingdom of Saudi Arabia sold a new issue of six-year dollar sukuk and ten-year conventional dollar debt at initial price indications on October 18 at a spread of 135 and 180 basis points over comparable US Treasuries. It placed $5 billion with demand exceeding $26.5 billion, of which $7.5 billion was sourced for the sukuk tranche: priced at 30 basis points for both tranches, resulting in a sukuk coupon of 5.268% and 5.5% coupon. for the longest part. The purpose of the issue is to help finance a tender offer of $3 billion in 2023 bonds, as well as $12.5 billion in obligations due in 2025 and 2026.

Also on Oct. 18, Emirates NBD raised demand for $1 billion of a $500 million five-year issue priced at 5.745%, up 155 basis points from US Treasuries and 20 basis points tighter than initial guidance.

Investment-rated Lithuania also sold €1.2bn of new debt, including a €900m new 5.5-year issue priced 120 basis points above average swaps with a 4.125% coupon and a 99.26% discount to the issue price and 300 EUR. million taps from its previous 10-year deal with a spread of 135 basis points. Previous reports claimed that the demand reached almost 2 billion euros. After its completion, Latvia authorized the banks to carry out further sales in euro.

Broader SSA Debt Restructuring Discussions

In addition to Ghana’s ongoing talks with the IMF, which we expect could lead to a renegotiation of its debt under the G20 common framework, the focus has been on Nigeria and Kenya.

The first was sparked by Nigeria’s Minister of Finance, Budget and National Planning, Zaineb Ahmad, announcing in an interview on Bloomberg TV that the country was considering debt restructuring both internationally and domestically. Her statement said the ministry had appointed a consultant to investigate “restructuring and negotiations to extend repayment terms”. This Day newspaper added that she stressed the need to use 65% of projected 2023 revenue to cover debt service in 2023. Although Nigeria’s debt has risen sharply, reflecting poor fiscal leverage and heavy spending on subsidies, its debt-to-GDP ratio. is modest (just over 23% in mid-2022), but its debt servicing costs, according to World Bank forecasts, will exceed government revenues by next year.

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Nigeria had already shown some signs of debt distress as it sought to extend DSSI’s official debt service relief to sub-Saharan Africa, but had so far not used the term “restructuring”. The suggestion that it wants to extend maturities seems to indicate that it is not looking to do capital discounts, but to extend the maturity of its liabilities.

A subsequent statement from Nigeria’s Debt Management Office (DMO) denied any restructuring was planned, instead saying it wanted to manage its liabilities by “spreading debt maturities” and “refinancing short-term debt with long-term debt.” , suggesting that it was also exploring bond buybacks and swaps as liability management tools. A subsequent statement asserted that “Nigeria remains committed and will meet all its debt obligations” but would seek to apply debt management instruments to its international obligations, including bilateral and concessional loans.

According to a Bloomberg report on October 20, Kenya plans to negotiate an extension of loans from the Export-Import Bank of China to build a rail link between Nairobi and the port of Mombasa. Transport Secretary-designate Kipchumba Murkomen has warned that the Belt and Road Initiative project will “never break down” and that it will “become impossible” to repay the loan from the proceeds of the project. He cited a 50-year term as a target for renegotiations, compared to the current 15-20 year terms.

Under the recently elected President Ruto, users of the line have been given more flexibility in how they transport goods to Mombasa, ending the previous policy that forced them to transport them to inland hubs before shipping. Even then, the line is unprofitable with passenger and freight revenue of 15 billion Kenyan shillings against operating costs of 18.5 billion. Exim lent KSH 500 billion ($4.13 billion) to the project. In early October, Kenya’s Treasury was reportedly fined $1.3 billion ($930,000) for defaulting on debt service obligations, following earlier inquiries into the non-payment of Chinese-owned rail operator AfriStar. .

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Bank capital “expansion risk”

Banco Sabadell failed to close an additional Tier 1 deal (its €400 million issue at 6.125%) on the first call date, which is in November. The bank announced its decision ahead of the Oct. 23 call notice deadline, “taking into account the replacement cost of AT1 instruments under current market conditions.”

On November 23, the instrument’s coupon will reset to the five-year swap rate (currently 3.08%) plus a yield rate of 6.051%, implying a new coupon of approximately 9.13%. The issue had already been sold at a 10 percentage point price discount
Its decision did not prevent Bank of Nova Scotia from issuing the AT1 deal, $750 million of 60-year non-recourse five-year debt at 8.625%, compared with an early guidance of 8.75%. If the bonds were not called, they would reset to the 5-year U.S. Treasury yield plus 438.9 basis points.

Later in the week, Irish permanent TSB also sold €250 million of permanent AT1 debt due in 5.5 years at an unusually high coupon of 13.25%, a record for the sector, compared to the 7.9% coupon required for a similar instruments for sale at the end of 2020. The challenge is to strengthen its balance sheet ahead of a €6.8bn loan purchase from Ulster Bank, which is mainly being financed by the sale of shares to seller NatWest Group.

Our method

Both the Kingdom of Saudi Arabia and Emirates NBD saw good demand, further confirming strong investor sentiment towards stronger GCC credit given the positive windfall of higher energy prices on their finances. Healthy appetite for investment-grade EM risk also extended to Lithuania’s two-part sale.

Nigeria’s debt stress should not require full-scale restructuring at this time. Even after this year’s projected growth, its debt-to-GDP ratio is unlikely to exceed 30%. Its main problems are excessive spending on subsidies and ineffective fiscal capture. However, the growing burden of debt servicing costs compared to modest fiscal income calls for policy attention. Kenya is in a much tighter position (with a debt-to-GDP ratio of 67% in mid-2022), but much stronger than Ghana.

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Banco Sabadell’s decision not to call the AT1 facility when possible is to date an isolated event and may be temporary. However, it has revived investor focus on “extension risk”: the possibility that banks will not demand AT1 and subordinated debt as market conditions deteriorate, leaving investors to hold instruments with longer (and possibly perpetual) maturities despite their initial expectations that they might as far as possible, in accordance with normal market practice. However, subsequent delivery suggests that this has not blocked new issuance, but may have contributed to record coupon payments for permanent TSBs.

Banco Santander previously opted to miss out on the AT1 call option in 2019 but bought the issue soon after, and both Deutsche Bank and Lloyds Bank also missed first call dates in 2020, but it has been customary to exercise the first call option until now.

Sabadell’s decision highlights the growing “expansion risk” for AT1 instruments as rates rise. As banks face higher refinancing costs, there is a greater temptation to hold such instruments unclaimed and allow them to move to less favorable post-call coupons. Sabadell has stressed that it can withdraw the issue at the next quarterly auction date, but the complex refinancing conditions increase “extension risk. Investors face a large risk of loss if the practice becomes more widespread, which would hinder future issuance of AT1 capital instruments.

Posted by Brian Lawson on October 25, 2022Senior Economic and Financial Advisor, Country Risk, S&P Global Market Research

This article was published by S&P Global Market Intelligence and not by S&P Global Ratings, a separately managed division of S&P Global.


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