New issue premium is back in Gulf's bond market
New issue premium is back in Gulf's bond market
For six months or so, Gulf issuers only had to pay a tiny premium above the secondary-market yields of their outstanding bonds when they issued new debt — or in many cases, no premium at all.
That was because of record-low US Treasury yields as well as the dramatic improvement of the Gulf's image in the eyes of international investors, as Dubai and other economies recovered from the global financial crisis.
In the last couple of weeks, however, it has become clear that a back-up in US Treasury yields and strong global equities mean new Gulf issuers will once again have to pay substantial premiums.
"We have to take into account the global headwinds and investors' mood, as there are periods when the markets go through periods of softness, as the one we are witnessing now in the global markets," said Sami Mahfouz, head of Standard Chartered's global markets business for the United Arab Emirates.
"This needs to be taken into consideration given that significant demand is also from the global investors and not just regional."
In a sense, the Gulf is paying a price for the increase in the popularity of its bonds among international investors last year. Previously, when almost all demand for bonds came from cash-rich institutions within the region, pricing of new issues was partially insulated from global trends; now the global environment cannot be ignored.
After a massive rally at the beginning of this year, emerging market hard currency bond funds experienced outflows for the first time in 35 weeks in the week to Feb. 6, according to data from EPFR Global.
For some analysts and investors, the shift in the bond market is not a short-term phenomenon but the start of a long-term process.
"The great bull market in bonds is coming to an end. People get anchored on a view that a particular asset class is going to give double-digit returns all the time," Gary Dugan, chief investment officer for Asia and the Middle East at Coutts, the private banking arm of Royal Bank of Scotland, said at an event in Dubai last week.
"There is a serious risk that you can lose money in bonds or sukuk this year, so we are telling clients to start looking at equity instruments."
A very few emerging bond markets have been able to ignore the trend. One is Turkey, where Akbank was able to command very tight pricing of its 1 billion lira ($ 530 million) Eurolira bond at the end of January.
The Gulf is not one of those markets, however. The current mood means issuers will need to "leave something on the table for investors to put in the big orders", said one regional fixed income trader.
Another trader estimated borrowers would now need to pay a 15 to 20 basis point new issue premium for longer-dated bonds.
That may be an underestimate; Russia's VimpelCom had to pay a new issue premium estimated at between 25 bps and 40 bps on the dollar tranches of its $ 2 billion bond sale last week.
Dubai paid no new issue premium - it actually priced inside its outstanding bonds - when it raised $ 1.25 billion from a two-tranche bond sale in late January. But the bonds soon came under selling pressure in the secondary market.
The 3.875 percent 10-year sukuk, which priced at par, has traded below par since issue and was bid at 98.0 cents on the dollar to yield 4.116 percent yesterday.
The change in the bond market's tone already seems to be influencing Gulf issuers. There have been no conventional bond or sukuk deals from the region since Emirates airline priced a $ 750 million, 12-year amortizing bond in late January.
Just a few weeks ago, the market was expecting the first quarter of this year to be a busy period for new issues.
One potential borrower is state utility Dubai Electricity and Water Authority (DEWA), which has said it plans a sukuk issue of up to $ 1 billion in the first quarter.
Reuters reported last month that the company had mandated banks for the deal, but Chief Executive Saeed Mohammed Al-Tayer said on Monday that the timing of the issue was still to be determined.
"We are studying it and will decide on it next week," Al-Tayer said, without giving any indication of the tenor.
DEWA's existing $ 1.5 billion, 7.375 percent bond maturing in 2020 was yielding 4.0 percent yesterday, about 40 bps wider than a month ago.
"Tightening spreads are good for borrowers but the region has been mainly considered as a yield play, and investors are interested in generating yield from creditworthy names," Mahfouz said.
The return of the new issue premium while not deter Gulf issuers forever; yields are still a couple of percentage points or more below their level a year ago, and after a period in which they judge whether the new market environment is here to stay, issuers are likely to return to the market.
Abu Dhabi Commercial Bank announced this week that it had mandated banks for a bond sale of at least $ 500 million, while National Bank of Abu Dhabi is to consider issuance of convertible bonds and other instruments at a meeting next month.
But issuers may feel more pressure to come to the shorter end of the market to minimize the premiums they pay.
"Long-dated bonds are going to be tough (to issue) at the moment, but the right type of names can still come to the market. Investors are looking for the yield in the short end," said a regional trader.
Gulf companies challenged by debt and rising interest rates
- Debt restructurings on the rise, but below crisis levels
- Central Bank of the UAE has raised interest rates four times since last March
There has been an uptick in recent months in heavily-borrowed companies in the Gulf seeking to restructure their debts with lenders. Although the pressure on companies is not comparable to levels witnessed in the region following the 2008 global financial crisis, rising interest rates will eventually begin to have a greater impact, say experts.
Speaking exclusively to Arab news, Matthew Wilde, a partner at consultancy PwC in Dubai, said: “We do expect that interest rate increases will gradually start to impact companies over the next 12 months, but to date the impact of hedging and the runoff of older fixed rate deals has meant the impact is fairly muted so far.”
The Central Bank of the UAE has raised interest rates four times since the start of last year, in line with action taken by the US Federal Reserve. The Fed has signalled that it will raise interest rates at least twice more before the end of the year.
Wilde added that there had been a little more pressure on company balance sheets of late, although “this shouldn’t be overplayed”.
Nevertheless, just last week, Stanford Marine Group — majority owned by a fund managed by private equity firm Abraaj Group — was reported by the New York Times to be in talks with banks to restructure a $325 million Islamic loan. The newspaper cited a Reuters report that relied on “banking sources”.
The Dubai-based oil and gas services firm, which has struggled as a result of the downturn in the hydrocarbons market since 2014, has reportedly asked banks to consider extending the maturity of its debt and restructuring repayments, after it breached certain loan covenants.
A fund managed by Abraaj owns 51 percent of Stanford Marine, with the remaining stake held by Abu Dhabi-based investment firm Waha Capital. Abraaj declined to comment.
Dubai-based theme parks operator DXB Entertainments struck a deal last month with creditors to restructure 4.2 billion dirhams ($1.1 billion) of borrowings, with visitor numbers to attractions such as Legoland Dubai and Bollywood Parks Dubai struggling to meet visitor targets.
Earlier this month, Reuters reported that Sharjah-based Gulf General Investment Company was in talks with banks to restructure loan and credit facilities after defaulting on a payment linked to 2.1 billion dirhams of debt at the end of last year.
Dubai International Capital, according to a Bloomberg report from December, has restructured its debt for the second time, reaching an agreement with banks to roll over a loan of about $1 billion. At the height of the emirate’s boom years, DIC amassed assets worth about $13 billion, including the owner of London’s Madame Tussauds waxworks museum, as well as stakes in Sony and Daimler. The firm was later forced to sell most of these assets and reschedule $2.5 billion of debt after the global financial crisis.
Wilde told Arab News: “We have seen an increasing number of listed companies restructuring or planning to restructure their capital recently — including using tools such as capital reductions and raising capital by using quasi equity instruments such as perpetual bonds.”
This has happened across the region and PwC expected this to accelerate a little as companies “respond to legislative pressures and become more familiar with the options available to fix their problems,” said Wilde.
He added that the trend was being driven by oil prices remaining below historical highs, soft economic conditions, and continued caution in the UAE’s banking sector.
On the debt restructuring side, Wilde said there had been a “reasonably steady flow of cases of debts being restructured”.
However, the volume of firms seeking to renegotiate debt remains small compared to the level of restructurings witnessed in the aftermath of Dubai’s debt crisis.
Several big name firms in the emirate were caught out by the onset of the global financial crisis, which saw the emirate’s booming economy and real estate market go into reverse.
State-owned conglomerate Dubai World, whose companies included real-estate firm Nakheel and ports operator DP World, stunned global markets in November 2009 when it asked creditors for a six-month standstill on its obligations. Dubai World restructured around $25 billion of debt in 2011, followed by a $15 billion restructuring deal in 2015.
“We would not expect it to become (comparable to 2008-9) so barring some form of sharp external impetus such as global political instability or a protectionist trade war,” said Wilde.
Nor did he see the introduction of VAT as particularly driving this trend, but rather as just one more factor impacting some already strained sectors (e.g. some sub sectors of retail) “which were already pressured by other macro factors.”