Global Capital, July 2014
There have been times in recent years when it has seemed that foreign issuers were gone from the euro bond markets for all but the most vital issuance. American or Asian multinationals with a clear functional local use for the currency, like McDonald’s or Caterpillar, could still be found, but the rest had been driven away.
Now, though, they are back, raising funds in significant size and at attractive rates. 2014 to date has been a roll-call of the world’s blue chips tapping the European (and sometimes British) currency: Verizon, taking Eu3 billion in an eight and 12-year deal alongside a further billion in 20-year sterling; Petrobras, with three tranches of euros and one in sterling in January; AT&T, which raised Eu2.1 billion in June; Philip Morris, with Eu1.75 billion in seven and 12 year money in February; Wal-Mart, Bharti Airtel, Pemex, and the ever-present GE Capital.
What’s changed? It’s not as if the idea of euros has ever been unattractive. “For those issuers that have full dollar curves or are regular dollar issuers, there’s no harm in diversifying funding sources,” says Hugh Carter, head of credit syndicate at Commerzbank. “The investor base for US dollar transactions is on average 85% US. The European investor base offers diversification: as well as being led by asset managers, there’s a much larger tail of investors, and therefore you tend to see more investors in the order books.”
But what’s different between now and even a year ago is something more specific.
“The pick-up in non-domestic issuers in the last six months has been driven by a narrowing of the euro-dollar basis swap market,” says Duane Elgey, director of corporate syndicate at SG. That market suffered considerably during Europe’s sovereign debt crisis, trading as low as minus 65, he says. This, naturally, was prohibitive for those US issuers who had no need for euros. “Whatever pricing we offered, even when the pricing in euros looked tight, you would have to add 65 basis points to the cost,” Elgey says. Naturally, for most, that was out of the question.
The pressure on European banks through the financial crisis was part of the problem. “You’ve got to remember that a large part of the world is dollar functional borrowers,” says Brendon Moran, global co-head, corporate origination at SG. “They like to pay dollar Libor. And throughout the financial crisis as European banks found their access to dollars under pressure, particularly from late 2010 into 2012, you saw a lot of European banks funding themselves in euros and swapping into dollars to fund their dollar obligations. It created somewhat of a one-way market which saw it become very expensive for issuers to issue in euros and swap into dollars, because everyone was doing it and nobody was coming the other way.”
Then, things changed considerably. Confidence was restored first to the sustainability of the broader Eurozone, then, gradually, to the banks within it. The swap came back and, at one stage, even turned positive. “That brought the pricing for a lot of borrowers back into the ballpark,” says Elgey. “It’s not the case that every borrower will have attractive pricing in euros, but a lot of them will.” Consequently, a number of once-familiar names that had been absent from the euro market for years began to reappear: Shell, for example, which raised Eu2 billion in seven and 12-year funds. “It was a good trade, but the interesting thing is the fact that they came to the euro market at all,” Elgey says.
While the basis swap has brought the euro market back into the picture for foreign multinationals, there are a number of other reasons besides. One is acquisition finance: “Where M&A involves a purchase in euros, it often can be or needs to be funded in euros,” says Carter at Commerzbank. Carter also mentions what he calls “the Verizon/Google example”: Verizon raised $49 billion in the dollar markets, then opted for euros in order to round off its range of funding options; and Google has indicated that it may borrow in euros because it is appropriate for its funding structure.
Then there are other elements unique to euros, in particular tenor. Aside from the usual benchmarks, “In the euro market you can do 6, years, 8 years, 10 years and 12 years while the US market tends to be much more traditional in 3s, 5s, 10s and 30s,” says Carter. “So if you want to diversify and have a broader, smoother distribution profile, you can have a greater mixture of maturities through euros.”
In tandem with that, the European curve has been moving to longer durations than have commonly been associated with it. “We are in a low rate environment where investors need to work hard to increase yield,” says Chris Whitman, head of global risk syndicate at Deutsche Bank. “They can do that by going down the credit spectrum, or by buying structures like hybrids or new-generation bank capital; or they can go out the yield curve. So issues that two or three years ago would have been five years in euros have now moved to seven or eight.”
Then there’s the question of supply. “Many borrowers in America and a few in Asia have seen a window in the European markets, given a persistent supply-demand imbalance: lots of demand for euro-denominated corporate bonds and still not enough supply,” says Moran. “Even the most average multinational will scour the globe for the best value, and they have seen euros increasing stacking up.”
AT&T has been one of the most closely watched issuers amid this trend, and its senior vice president and treasurer, Jonathan Klug, explains to Global Capital the benefits the company now sees in euro issuance.
“Foreign-denominated bonds have two key benefits,” he says. “They are attractive to a diverse investor base, and give us flexibility on maturities.” AT&T finds that debt in euros and sterling is attractive to non-US holders, as well as US investors with offices in Europe. “So foreign denominated debt is a key part of our long-term debt structure.”
Like Carter, he sees the merit in a wider range of maturities in euros than in the US. “The foreign markets offer us more flexibility in terms of maturity buckets,” he says. “US dollar based investors prefer specific maturities,” he says, highlighting three, five, 10 and 30 years. “European investors, on the other hand, tend to be more open with regard to a wider range of maturities. Access to that wider range gives us flexibility and helps us better manage our portfolio.”
He adds, though, that “there’s very little demand in the euro market for maturities greater than 20 years,” though sterling offers a much greater appetite for longer maturities.
Nevertheless, AT&T’s latest benchmark in euros raised Eu1.6 billion in 10-year funds and Eu500 million in 20-year: durations which perhaps a few years ago the European market would not have digested. It’s not alone in this: Phillip Morris came with a 15-year transaction, Sandvik with 12 and Illinois Toolworks with 8s and 20s, all longer than they would have been expected to do in the past. “Clearly investors are saying: do I like this credit?” says Moran. “If yes, where do I go on the curve to find a return I like?” Still, Moran notes the “first signs of investor fatigue at the longer end,” and adds that “Europe is still a market where the long end comes in fits and spurts.”
Like many other US issuers, Klug says that in terms of pricing he has seen only marginal fluctuations in the last year, but that the cost of the swaps has changed since historically AT&T has swapped its foreign-denominated debt back into dollars.
While AT&T’s experience is interesting, it would be a mistake to see the improvement in European market conditions as an advantage purely for Americans. “US corporates are not alone in this trend,” says Carter. “We have seen Korean and other Asian issuers, such as Hutchison Whampoa; we’ve seen Latin Americans like Pemex or Russian like Gazprom. Recently we did the first publicly syndicated Turkish bank in euros, and they are a traditional dollar issuer. Some have a requirement for euros, some want to diversify, and some are taking advantage of different maturities.”
Whitman finds this a recent trend. “Last fall was the first time the euro-denominated market was pricing Asian names competitively to dollars in a long time,” he says. “Some of that was familiarity; some of it was the basis swap; some of it was investor demand for name diversification; and some of it was the general outperformance of euro spreads versus dollar spreads.”
An example of an Asia Pacific issuer in euros is Australia’s Brambles, which raised Eu500 million in June, in a deal that attracted an Eu3.5 billion order book and was originally planned to raise only Eu350 million.
“We had a successful debut issue into the European bond market in 2011 and were pleased with the strong demand for the recent raising,” says Zlatko Todorcevski, Brambles’ CFO. “There’s clearly good demand for quality corporate issuance in Europe, and obviously the strong liquidity environment is feeding that to some extent. In our case, our strong operational presence in Europe makes it a key funding market for us.”
When an Australian corporate assesses pricing, it has a few choices, among which the domestic market is not necessarily the best option. “We seek to access funding in our key regions of operation and we’ll look at the US, euro or Australian markets as appropriate,” Todorcevski says. “Pricing is clearly quite favourable in the euro market at present but we also have US144A bonds and believe that will continue to be an important market too. For us, it’s a question of accessing markets with adequate depth, maturity and low execution risk.” The Australian dollar bond market is developing but, since that’s not the currency Brambles needs its money in, hasn’t been the best choice.
Brambles clearly differs from most US multinationals because it doesn’t need to swap the proceeds of its transactions: it raises what it needs in the currencies of the countries within which it operates, “which predominantly means we need US dollars and euros and there’s no need to swap back into Australian dollars.” That means a lower overall cost for the transaction, he says. More than a quarter of Brambles’ revenue is generated in euros and in euro-zone countries, “so funding in those markets is something of a natural hedge for us.”
Asked what he learned about European investors through the roadshow and the deal, he notes “a strong appetite for 10-year bonds at present reflecting the fact that the market is looking for yield.” There are no immediate plans to issue in euros again, “but over the medium and longer term we see the European bond market as a natural source of funding,” he says.
For the future, there’s little immediate reason to expect the issuance window to close. “We certainly don’t see any signs of it evaporating, underlined by statements from the ECB,” says Moran at SG. “Those rate cuts at the short end provide an anchor to the overall rates environment in Europe.” One can quibble about which of the US or UK is likely to raise rates first, but there is a consensus that the ECB will be some distance behind them. “That will continue to support euros as a cost-effective place to come and raise funds.”
Elgey adds: “The kind of policies coming out of the ECB are likely to make people comfortable that interest rates are staying down for a substantial amount of time. The risks of buying a longer dated asset and having its yield rise dramatically are relatively low at the moment.”