Volatility in global financial markets has led to a fundamental repricing of risk, according to bankers in Latin America. However, Chile’s $1 billion sovereign bond in early September shows that strong credits still have access to international bond markets, especially if they are agile in accessing windows of opportunity in the market.
Jake Gearhart, director in emerging markets syndicate at Deutsche Bank in New York, which led the Chile deal with HSBC, says: "There has recently been a tremendous amount of re-evaluation and repricing of market risk." For example, in mid-September Brazil’s credit default swap spreads were over 200 basis points and in June 2011 they were around 100bp. Brazil had been trading around 20bp to 25bp back from the investment-grade CDS index before the current crisis and is now trading about 50bp back and has almost doubled in spreads.
Repricing
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"I believe a lot of the adjustment is focused more on what is going on in the FX world for emerging markets and more related to FX and local rates" |
Katia Bouazza, head of global capital markets, Latin America, at HSBC, agrees that Latin American risk is being repriced but says it is part of a wider reassessment. "I think the whole market is being repriced," she says. "A lot of banks are being downgraded. There have been a lot of movements in the equity markets and the CDS markets. I believe a lot of the adjustment is focused more on what is going on in the FX world for emerging markets and more related to FX and local rates."
Another DCM banker says that ultimately this repricing of emerging market risk will be a good opportunity for higher-quality issues in Latin America because base rates will remain low but the outlook for corporates, especially those rated lower than investment grade, is more problematic.
"The money that is going to be put to work in the emerging markets is most likely going to be put to work in the sovereigns and the quasi-sovereigns," the banker says. "But the bar has got tremendously higher for corporates."
International DCM issuance from Latin American credits in September was, unsurprisingly, lower than in previous years. The Republic of Chile transaction was one standout deal.
On September 7 the sovereign placed a new $1 billion 10-year bond and reopened last year’s CLP-denominated bond for a further $350 million equivalent. The dollar-denominated bond priced at 99.131 with a 3.25% coupon to yield 3.381%, 130bp over US treasuries, wider than the 90bp spread over treasuries achieved by the sovereign when it issued 2020s last year, although that trade’s total yield was 3.89%.
"It’s a bit misleading because the Chilean credit has improved from last year to this year, so technically we should have seen the spread over US government treasuries tightening, especially when combined with the fact that Chile has maintained its rating while the US saw a downgrade," says Bouazza. "There are market technicalities for the increase in spread: we are in such a low-rate environment and there is a lot of uncertainty regarding the global credit markets, which has led to a situation where there has not been a direct correlation between Chile’s credit and its spread. However, overall the yield and the coupon Chile achieved is quite aggressive and historically low. It’s the lowest total yield that any sovereign or corporate has achieved in Latin American for 10-year paper. If you analyse the transaction as a whole it definitely shows the credit strength of the Republic of Chile."
Not picky
At the point Chile priced the deal at 130bp over treasuries, buyers reported that it looked attractive to the rest of high-grade Latin America on an absolute-spread basis, with one saying he thought Chile hadn’t been "picky" in the pricing of the paper. He pointed to Brazil 2021s that were trading at treasuries plus 145bp and Mexico 2020s at treasuries plus 135bp. Another imperfect comparator was Korea’s 2019s, which were trading at treasuries plus 130bp. However, Bouazza dismisses suggestions that Chile wasn’t as aggressive as it might have been, saying the deal should be viewed as a very tightly priced transaction.
"Chile basically didn’t pay any new-issue premium. Based on their prior deals, Brazil and Mexico would both have had to add curve extension – plus pay for a new-issue premium," says Bouazza. "Chile is the only issuer in the past month that has been able to come to market with almost no new-issue premium. The market is a bit weaker than when we printed Chile – issuers are paying as much as 40 basis points new-issuance premium. So you have to look at the spread over treasuries of this deal within the context of the market in which it issued, and not just compare with the levels that some secondary paper was trading at."
Chile was initially thought to be planning a larger re-tap of the peso tranche than the final $350 million-equivalent. However, the primary motivation was to increase liquidity while at the same time maintaining the benchmark. Rather than pay more for a larger re-tap the sovereign preferred to print the deal at the level it did – pricing inside the local curve by about 60bp.
Early in September there were also international bond deals for Banco de Crédito del Perú, which priced a $350 million led by Bank of America Merrill Lynch and Morgan Stanley. Telemar’s Brasil Telecom priced a global R$1.1 billion ($598 million) five-year, led by BAML, Citi, Deutsche Bank, HSBC, Itaú and Morgan Stanley.
Both deals came the day after Chile’s issue and followed a $60 million three-year bond for Argentina’s Cresud, brought by Itaú, on September 2. For the rest of September market volatility had prevented any further deals.
"Chile was served well by executing the transaction when it did, given the turn of events in the global economy following the deal. The market has moved sharply away from a number of borrowers since pricing," says Gearhart, although he believes the markets will reopen soon. "Chile shows there is access – and that will probably continue to be the case for LatAm sovereigns. They are in a good position. Once we emerge from this period of repricing, they will likely be the first beneficiaries of a bias of portfolios to remain relatively heavily invested in emerging markets."
Bouazza agrees: "The markets are challenging but they are still open for dollar-denominated deals. We will continue to see the deals come through, and with global interest rates low the prospective total yields are quite attractive. I wouldn’t be surprised if other Latin American sovereigns might look to do international dollar deals in October."
The curve
Chile’s finance minister Felipe Larrain has hinted that the sovereign is considering further bond transactions in 2012 and 2013, with the aim of providing a benchmark for Chilean corporate issuance. In 2010, after the last Chilean deal, the supply of Chilean corporate deals was double that in 2009, and it was zero in 2008 and only $250 million in 2007. In 2010 there were 16 deals worth over $7 billion, and year-to-date in 2011 there has been about $4 billion from eight deals.
"There is definite value to maintaining that benchmark and pushing out liabilities and providing a reference point for investors for the next 12 to 24 months," says a DCM banker.
Gearhart agrees: "A number of debut names in 2010 established themselves on the back of Chile creating a benchmark security last August. Before that deal, investors were guessing what the sovereign risk component risk was, and the government bond undoubtedly helps investors quantify that risk."
However, while the sovereign is focusing on easing the access to international bond markets for Chilean corporates there have been a couple of interesting examples of Chilean credits raising money in Mexico’s domestic bond market. BCI and Molibdenos y Metales have both accessed the market.
"We have seen intra-regional demand for bank paper across a number of jurisdictions, including in Peru, Mexico and Colombia," says Gearhart. However, he believes that while intra-regional deals such as these are important, they are not going to compete with the issuance of international bonds in terms of scale for the foreseeable future.
