Emerging markets

The loss of a full set of investment-grade ratings for Colombia after S&P's downgrade last week was reflected by its EMBI spread (the average margin of its reference bonds versus US Treasuries) reaching 263 basis points on 25 May, a 2021 high, versus a 2021 low of 210 basis points on 8 January and 217 basis points on 10 May (prior to withdrawing its planned fiscal austerity program in response to protests). The adjustment is relatively modest and remained below the 272 basis point margin reached in late September 2020, or its one-year peak of 307 basis points last June, suggesting that the loss of investment-grade status had been widely anticipated, and indicating the relatively strong current demand for split-rated and stronger sub-investment grade credits. Nevertheless, further adverse rating changes are widely forecast.

Abu Dhabi completed a USD2 billion seven-year offering. The issue priced at 1.676%, 45 basis points over US Treasuries, versus initial price talk of a 70-75 basis point spread, with peak demand of USD6.9 billion.

Oman Arab Bank sold a debut perpetual bond. The USD250 million issue gained USD1.1 billion in demand, pricing at 7.625% to the initial five-year call versus 8% initial price talk.

Mamoura, the issuing vehicle of Abu Dhabi's state fund Mubadala, sold a USD1 billion Taiwan-targeted 30-year bond at 3.4%, versus 3.7% guidance, and paid USD500 million for ten years at 2.532%, 95 basis points over mid-swaps and 35 basis points tighter than guidance. The package attracted USD5.7 billion of demand.

ESG

Pakistan Water and Power Development Authority gained over USD2.2 billion in demand for its debut Green Bond, the first from Pakistan. The USD500 million ten-year deal was priced at 7.5% versus low 8% guidance. Eligible projects include hydro and wind-powered power schemes.

Multiple European borrowers sold ESG debt on 26 May. Those issuing included EDF with a social hybrid issue, Dutch electricity firm Tennet with a three-tranche Green package, UK property logistics firm Tritax Eurobox with Green debt, and Wendel, a sub-investment grade French holding company. Additionally, Helaba sold eight-year Green non-preferred debt, its first such issuance, and CaixaBank sold Green bonds in sterling, placing GBP500 of 5.5 year bonds (first callable after 4.5 years) at a 1.5% coupon.

EDF's EUR1.25 billion 2.625% perpetual issue is first callable after seven years. Proceeds may be used for eligible projects including contracts with SMEs. In its statement, EDF claimed the deal to be the first benchmark sale of social bonds by a utility and the first social hybrid bond globally.

Canadian shipping group Seaspan has arranged a USD500 million private placement of sustainability-linked debt. The package includes 10, 12, and 15-year liabilities, priced at 3.91%, 4.06%, and 4.26%. Global Capital reported that over 20 investors participated.

Other debt

Bank supply remained active. On 24 May, JP Morgan issued a further USD4.5 billion of four- and seven-year debt, including two USD2 billion fixed-rate tranches and a USD500 million SOFR-linked floating rate note. The fixed-rate bonds priced at 0.824% and 2.069%, 50 and 80 basis points over US Treasuries and 20 basis points inside initial price talk on both tranches. On the same day, UBS sold USD3 billion of debt: USD1 billion each of fixed and floating-rate debt and a five-year bond at 1.33%, 19.5 basis points inside initial guidance of 70-75 basis points over US Treasuries. Bank of America also issued, placing a USD1.25 billion three-year FRN.

UBS Group placed a USD750 million perpetual deal - first callable after five years - at 3.875%. Initial guidance had been set at 4.25%.

Deutsche Bank raised USD1.5 billion on 25 May, with an 11-year deal priced at 3.035%.

Westpac also was active, selling fixed and floating rate debt for five years and a 10-year deal at 2.157%, 60 basis points over comparable US Treasuries, and 27.5 basis points inside initial price talk. It gained USD8 billion of demand for the USD2.75 billion package.

They were followed by Morgan Stanley, which sold USD3 billion of 4-year debt (first callable after three years) on 26 May. The issue priced at 0.79%, 48 basis points over comparable US Treasuries, and 17 basis points inside guidance.

CK Infrastructure, 71.9% owned by CK Hutchison, sold a USD300 million perpetual issue first callable after five years at 4.2% versus price talk of 4.5%, with demand exceeding USD1.2 billion. The deal has its coupon fixed for life, an unusual feature in Asia last used by CK Asset (within the same group) in September 2020.

AstraZeneca arranged a USD7 billion six-part bond sale ranging from three to 30 years, with coupons extending from 0.3% to 3%. According to IFR, demand exceeded USD38 billion. Proceeds will help to fund the USD39 billion purchase of Alexion, a Boston-based US biotech firm.

On 21 May, Unicredit announced that after posting a EUR2.79 billion loss for 2020, it will not pay a May coupon payment on EUR2.98 billion of legacy instruments called CASHES (convertible and subordinated hybrid equity-linked notes), saving some EUR120 million in debt service if it continues non-payment through 2021. This reverses a February briefing to analysts by CFO Stefano Porro that the bank had expected to make payments thereon despite its losses, and despite measures, it took in 2020 permitting it to make payment on the issue if lossmaking. The bond is a legacy instrument issued in 2008: payments thereon were suspended previously when the bank suffered losses.

More constructively, Unicredit showed that its access to senior debt was unaffected by launching a USD2 billion two-part senior deal on 26 May, comprising six and 11-year debt callable after five and ten years respectively. It priced the two tranches at 1.928% and 3.127%, 120 and 155 basis points over comparable US Treasuries and 25 basis points inside initial guidance.

Implications and outlook

The lowering of Colombia's bond rating is an adverse development and highlights the political difficulties that countries in the region - and elsewhere - are likely to face in attempting to restore fiscal and external debt sustainability through austerity policies after the COVID-19 pandemic is controlled.

Popular pushback to higher taxation on lower-income groups in Colombia is unsurprising, but the outcome risks pushing the government to increase the burden on the corporate sector, and on wealthier individuals, but with the consequential risk that this discourages capital formation and FDI, in turn slowing economic recovery prospects. Conversely, failure to improve fiscal capture would increase debt-service burdens and the risks to debt sustainability. Colombia is one of many countries globally facing such challenges for post-COVID recovery.

The modest initial market reaction to Colombia's downgrade does not offer grounds for complacency. The eventual US tapering of monetary easing measures and an eventual move to rising policy rates are likely to increase investor selectivity and curtail appetite for riskier credits as returns improve on completing safer asset classes. Tougher times lie ahead for weak credits and those on a declining trajectory.

Over the next 12-18 months, there appears to be a good probability that US and European rates would continue their recent upward trend. However, the continued sales of perpetual debt, Abu Dhabi and Mamoura's successful access to the market, and the strong response to AstraZeneca's package all indicate that risk appetite currently remains reasonably sound.

Unicredit's decision is a useful reminder that deeply subordinated bank instruments are highly risky and subject to non-payment when banks face capital pressure or other conditions specified in the issue. The main implication for Unicredit is reputational damage, which may hinder its ability to issue new AT1 and subordinated debt, although most of its outstanding junior debt barely reacted to the news. The decision not to pay the current coupon is a clear adverse development: an interesting indicator will be whether it decides to pay others due in 2021 to avoid hurting its market standing (as occurred when Banco Santander elected not to exercise an initial call on an AT1 bond but reversed its stance shortly thereafter). Unicredit remains a leading bank in Italy and its stance appears designed to strengthen its capital position through the savings made, so damage should prove temporary. Its successful sale USD2 billion of senior debt so promptly after the announcement is a clear indicator of market resilience.

Posted 28 May 2021 by Brian Lawson, Senior Economic and Financial Consultant, Country Risk, S&P Global Market Intelligence