European sovereigns turn the crisis to their advantage
Europe’s major sovereign debt issuers are confident they emerged from the global public health crisis in better shape than before the pandemic, albeit for different reasons.
Greece’s debt management office has been a notable beneficiary of the disruption, as its managing director, Dimitris Tsakonas, commented in January. “The side effect of the pandemic has been extremely positive for Greece,” he said at the January 20 OMFIF meeting on the outlook for European sovereign borrowing in 2022. “It gave us a unique opportunity to regain access to the capital market, rebuild our yield curve and extend the maturity of our debt as soon as possible. In other words, he added, it allowed Greece to issue “like a normal ruler”.
The latest milestone on Greece’s path to normalization was its 10-year benchmark of 3 billion euros in January, which had more to do with the sustainability of the sovereign funding program than with access to the funding. Tsakonas explained that as a sub-investment grade borrower, Greece’s main motivation for the issuance was to maintain a dialogue with investors.
Tsakonas acknowledged that Greece owes much of its rehabilitation as a borrower to the European Central Bank’s Pandemic Emergency Purchase Program. But eurozone sovereigns with much stronger credit ratings than Greece have benefited from the pandemic in other ways. Elvira Eurlings, director of the Dutch Treasury Agency, acknowledged that it was almost “shameful” to reflect on the opportunities the pandemic has created for the Netherlands from a funding perspective.
Eurlings explained that before Covid-19, the DSTA was constrained by a relatively modest annual funding requirement, around 43 to 45 billion euros. This meant it was often unable to explore new funding alternatives for fear of cannibalizing its existing core product line. This is one of the reasons why the Netherlands has not been able to consider adding inflation-linked bonds to its funding repertoire, as this would require the DSTA to provide investors with liquid bonds over a number of maturities.
While Eurlings said the DSTA has no plans to add ties to its funding program, it noted that the increase in its funding requirement created by the pandemic has been helpful from the perspective of debt management. “Our funding needs have almost doubled to around 73 billion euros this year,” she said, adding that this growth has allowed the DSTA to increase its liquidity and lengthen the average maturity of its debt portfolio. This is now about eight years old, compared to three and a half years in 2012.
Borrowers with a sufficiently large funding program recognize that inflation-linked and floating-rate issues will have an increasingly important role to play in an environment of high inflation and rising yields. “We are one of the few European sovereign borrowers with a stable float program,” said Davide Iacovoni, director general of public debt management at the Italian Treasury, which plans to issue around 300 billion euros. euros in 2022. “Normally these are mainly appealing to domestic investors. will continue in a higher rate environment.
The work done by European sovereigns to strengthen the structure of their funding profiles has been recognized by investors and rating agencies. Brian Mangwiro, portfolio manager, global sovereigns and currencies at Barings, said the success of European sovereigns in canceling their debt is one of the reasons behind his confidence that new issues will be comfortably absorbed this year.
This view was supported by Sarah Carlson, senior vice president of the sovereign risk group at Moody’s Investors Service. She said that when the rating agency released a stress test in November 2021 assessing the impact on sovereign borrowers of a 150 basis point interest rate hike, its conclusion was that the affordability of debt would be even more robust in 2025 than it was in 2017. “Cheap rates have been locked in for longer, which means governments have good shock absorption capacity when they s This is a higher rate environment,” Carlson said.
This is good news, as borrowers represented at the OMFIF meeting acknowledged that rising rates can complicate the process of revising the average maturity of their yield curves. This is a priority for a large borrower like Germany, which has seen its financing need more than double during the pandemic, rising to almost 483 billion euros in 2021 from just over 200 billion euros in 2019. Christian Wellner, head of strategy at Finanzagentur, said Germany plans to issue 410 billion euros in 2022 through auctions, supplemented by four syndications. “As a debt management agency, we responded to the crisis by increasing the short end of our issuance through our bond program,” he said. “What normalization means to me is having the flexibility to build a portfolio based on the best combination of maturities for the German taxpayer.”
Identifying issuance windows at the longer end of the curve will be more difficult in a steepening yield curve. The challenge may be exacerbated by increased supply in the sovereign and supranational space, notably from Next Generation EU. Eila Kreivi, director and head of the capital markets department at the European Investment Bank, said that by excluding public holidays and auction days, the windows for issuers looking to print new benchmarks are becoming increasingly rare. Kreivi said that was no problem for EIB, which for the first time in its professional career now has some scarcity value in the new issue market. But she echoed other speakers when she said sovereigns must now pay unusual attention to the issuance schedule.
The European Commission is aware of this challenge. “The debate about crowding out versus crowding out is interesting,” said Gert Jan Koopman, the European Commission’s director-general for budget. “The need to avoid traffic accidents is something that is discussed extensively between my team and other issuers to ensure that there will be no surprises when putting them on the Marlet.”
Philip Moore is editor-in-chief at OMFIF.