Wednesday, March 10, 2010

"Sticker Shock" Coming to Bond Investors As Bonds Mature

From this AM's Financial Times - yields have moved sharply lower on short maturity bonds. Investors who are looking to "park cash" are going to be facing some tough choices - lower quality or long maturities:

Bond investors seek new home for cash

By Aline van Duyn and David Oakley

Published: March 9 2010 19:16 | Last updated: March 9 2010 19:16

In 2009, investors bought almost $250bn of dollar-denominated bonds sold by US and European banks, all with triple A guarantees from US and European governments.

The rebound in the fortunes of many of the world’s biggest banks means this government backing has largely gone – and the banks are borrowing money without a government stamp of approval.

Now, as the government-guaranteed bonds sold during the crisis start to mature and get repaid, investors are wondering where to reinvest the cash they receive.

Some are opting to buy debt with lower ratings and higher yields relative to US Treasury or other government bonds. But a long list of borrowers with government guarantees or triple A credit ratings are making a push for these dollars, as borrowing needs, particularly by governments, escalate.

“There are still a lot of investors looking to buy government-guaranteed debt,” says Sanjeev Handa, head of global public markets at TIAA-CREF, which has $363bn of assets under management. “Last year, they were able to buy government-guaranteed bank debt, but now they are looking for alternatives to that.”

Dollar and debtFor the rest of this year, there are $40bn of such dollar-denominated guaranteed bank deals coming due, according to Dealogic data. The amount of government-guaranteed bank debt rises sharply after that, with over $100bn due in 2011 and nearly $190bn in 2012. These figures exclude the bonds denominated in euros and other currencies.

One investment alternative are new types of debt with government guarantees, such as a $1.8bn deal sold last week by the Federal Deposit Insurance Corporation backed by assets such as residential mortgages and construction loans from failed banks the US regulator has taken over. Two similar deals, also with guarantees, are being marketed to investors, and more may follow later this year.

Another source of new deals are bonds sold by European governments and agencies such as the Nordic Investment Bank or European Investment Bank.

“Many US investors are looking for diversification,” says Myles Clarke, managing director at Royal Bank of Scotland.

Other bankers say that US investors have been enticed into buying much of the European banks’ government-guaranteed debt because of the attractive yields on offer. Now, even though the yield pick-up over government bonds has shrunk substantially, the fact that many investors have received approval to invest in a broader range of entities means they are more willing to consider other European credit too.

The Bank of England sold $2bn of three-year bonds this week. The deal is part of its foreign exchange reserve management, and it borrows regularly in the dollar market. However, bankers say there was particularly strong demand from US investors, as they sought alternatives to government-guaranteed bank debt.

Peter Nijsse, head of cash management, issuance and trading at the Dutch State Treasury Agency, was in New York last week to meet investors.

As the country’s borrowing needs have risen – from €25bn per year before the financial crisis to €50bn this year – Mr Nijsse said it was worth the effort of developing a bigger investor base for Dutch debt. He said the agency was “ready to issue in dollars”, but had not yet made a final decision in terms of timing.

Tom Meuwissen, general manager at NWB Bank, a Dutch government-guaranteed development bank with triple A ratings, was also at investor meetings organised by RBS last week and said the positive feedback from US investors meant the agency was considering taking on the lengthy process of obtaining the relevant US registration to be able to sell to US investors. “Investors are interested in Dutch credit,” he said.

An added incentive for European borrowers comes from the swap market, where the cost of swapping debt payments from dollars into euros further decreases overall borrowing costs. The cross currency basis swap market currently offers a 15 basis point lower rate of funding for a 10-year bond issue swapped from dollars into euros.

It also reflects the deep pockets of funds available in the US. This is luring sovereign borrowers, even those with ratings below triple A, to the US market.

Eurozone governments, such as Italy and Belgium, have launched dollar bonds this year to tap this pool, while Finland, Germany and possibly Greece, in spite of its deficit problems, are lining up similar deals.

Barclays Capital forecasts that $20bn will be issued this year in dollars by eurozone countries compared with $12.5bn last year, $7.6bn in 2008, and only $2bn in 2007.