It is a sign of the times that the European Financial Stability Facility (EFSF), having raised €8 billion in a single month in June, is now preoccupied with increasing its lending capacity. These are anxious times in the eurozone and the issuer needs to bolster the amount of money it can lend from €255 billion to €440 billion. It will do this by increasing both the maximum guarantee commitments and the guarantee ratios of member countries. This will have the desired effect of increasing the amount that the EFSF can lend and probably eliminate the need for additional credit enhancement on each trade.
Under the new proposals, maximum guarantee commitments will rise from €440 billion to €780 billion. Germany’s share of this commitment will be €212 billion, France’s €159 billion, Italy’s €140 billion and Spain’s €93 billion. The guarantee ratios of each country have been increased to 165% (from 120%), which means that 102.9% of any issue will be guaranteed by triple-A countries. This should render additional credit enhancement in the form of specific loan buffers no longer necessary.
Self fulfilment
These increases have been long expected and have been agreed amid continuing uncertainty about how much the EFSF will eventually have to raise. "The increase in the size of the EFSF is essential in order to stave off a self-fulfilling run on Spain," warned Roubini Global Economics (RGE) analysts in mid-June. But more immediately worrying is the situation in Greece. As this continues to deteriorate calls are growing for the EFSF to agree to some form of debt exchange. The proposal mooted by French banks in late June suggests that the EFSF may be in the frame to partially collateralize the new 30-year bonds that the SPV scheme envisages.
Daniel Gros, director of the Centre for European Policy Studies in Brussels, argues that the EFSF should offer holders of Greek paper an exchange to EFSF paper at the current market price. This would make the EFSF the sole creditor to the country – and enable it to take a tough negotiating stance. The RGE analysts agree: "We view a Greek sovereign debt rescheduling in 2011 as highly likely and EFSF-backed debt exchanges would be an efficient tool," they say. However, they add that this "is not foreseen in the EFSF".
| "We are large enough to fund the two countries we have and also large enough to expand elsewhere if needed. But we don’t expect to have to get involved in further jurisdictions" |
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When Euromoney spoke to Christophe Frankel, chief financial officer at the EFSF, in late May he was emphatic that there would be no changes to the scope and remit of its operations. The fund itself is due to be superseded by the European Financial Stabilization Mechanism (EFSM) in 2013. Suggestions have been made that it should expand into other roles – such as buying government bonds directly – but Frankel confirms that buying in secondary has been discussed and rejected. "We are large enough to fund the two countries we have and also large enough to expand elsewhere if needed," he says. "But we don’t expect to have to get involved in further jurisdictions. Spain was supposed to be our first client but now they are decoupling." Talk of Greek debt exchanges does not appear to be frightening the horses as far as investors are concerned – the two EFSF benchmark deals in June were well received. "Ireland and Portugal have been provided with programmes of loans with average maturities of 7.5 years," Frankel explains. "Therefore the main range of maturities we will issue will be between five years and 10 years but we are able to go from three years to 12 years."
The debut 10-year trade came first and attracted €8 billion orders for the €5 billion of paper. It priced at 17 basis points over mid-swaps – 3bp through the European Investment Bank curve – in an environment of extreme instability because of the deteriorating situation in Greece. The €3 billion five-year deal came later in the month at 6bp over mid-swaps. Four more deals are in the pipeline for the year. Borrowing by the EFSF and EFSM between May 23 and July 15 will cover the first disbursements to Portugal and Ireland for a total of €15.3 billion. A credit line to Lisbon was due to be opened on June 29 following a request for €2.2 billion.
Skew
A glance at the distribution of the deals shows a skew towards Asian investors: 42% of the 10-year trade sold to Asia and 46.5% of the five-year. It is hardly surprising, therefore, that EFSF wants to develop investor potential elsewhere. Frankel is eyeing the potential across the Atlantic with intense interest. "We want to sell the bonds to the US domestic market," he tells Euromoney. "We know there is demand there – even in euro." Just 3% of the five-year deal was sold in the Americas but Frankel is determined to build on this. "We need to address qualified purchasers and then expand to the whole qualified investor base," he continues. "It is important for the market to know that we can add QIBs."
Frankel is confident that investors are now very familiar with the issuer. "The EFSF structure is now very well understood," he says. "Investors understand that EFSF’s quality is based only on triple-A countries and any questions they have about Ireland and Portugal have no impact on their approach regarding the quality of the bonds."
When the bailout fund was first launched some commentators compared it unfavourably to a CDO because of its pooling of guarantees from euro area countries. This suggestion was angrily rebuffed by EFSF chief executive Klaus Regling, who claimed that the comparison was invalid as EFSF issuance is not tranched and all investors have exactly the same rights.
Investor base
The EFSF might not be looking to develop a subordinated investor base but Frankel is very focused on development of the buyer base for its triple-A rated paper. "We have made efforts to expand the investor base," he explains. "There are still a few central banks and funds that are not able to buy bonds because of internal processes."
Despite his ambitions to tap new pools of money, Frankel is keen to emphasize that the fund can easily meet its funding obligations through its current programme. "If we enlarge the investor base we can diversify the instruments we issue – for example issuing FRNs would target a different investor base and we could do private placements as well. But for the time being we want to concentrate on fixed-rate European issuance."
He adds that while issuing outside the euro is available for EFSF it is not needed at the moment but could help increase the investor base in the long term. "There are not only new investors but also new portfolios. Many central banks have portfolios in dollars and euro. We would increase the target size."
Comfort
Under the revised guarantee ratios the share of each EFSF issue guaranteed by France and Germany rises from 61.2% to 84.2%, something in which investors should take comfort.
"We expect that the EFSF will regain some of the recent losses and might outperform EIB and KfW in the near term," says Frank Will, a senior strategist at RBS. But the issuer is now even more vulnerable to any downgrade among the six triple-A countries that back it – Germany, France, the Netherlands, Austria, Finland and Luxembourg. And the chances of it being sucked into the great European restructuring fudge over Greece are growing by the day.
