Philippines tests its new investment grade status

Thu Jan 9, 2014 6:29am EST

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HONG KONG, Jan 9 - The Republic of the Philippines soon will know how much its recently achieved investment grade status is worth as the sovereign markets its first offshore bond since being upgraded by all three agencies.

At first glance, the Baa3/BBB-/BBB- rating held by the Philippines since last year is not helping that much. The sovereign is offering investors a yield pickup of about 20bp compared with secondary levels on its outstanding dollar bonds. The indicated yield for its new 10-year bond is 4.5%.

The pickup is likely to be reduced, however, as the sovereign rides a wave of optimism about its economic policies. The Philippines has managed to cut its external debt-to-GDP ratio by almost half within the past decade to 32.3% by the end of 2012, according to an October report by Moody's.

The nation's fiscal discipline and strong growth has created positive momentum for the country's credit standing.

The Philippines's economic planning agency recently said the government expects growth in 2013 is likely to be near the high end of Manila's 6%-7% goal in spite of super typhoon Haiyan, which wreaked havoc on the country in November. The agency is confident of hitting a target 6.5% to 7.5% growth in 2014.

Such improvements have allowed the country to reach investment-grade status at the fastest pace of any sovereign in recent history.

As recently as 2005, Moody's still rated the Philippines B1, just two notches above the C category ascribed to issuers near default. In October last year, Moody's became the third of the major agencies to upgrade the Philippines to investment grade when it gave the country a Baa3 rating. Fitch started the move in March by rating the sovereign BBB-.

The upgrades are expected to create positive momentum for the 10-year dollar bond that the Philippines began marketing in Asia Thursday morning with an indicated yield of 4.5%. The offering, expected to be US$1bn to US$1.5bn, is the sovereign's first in more than a year.

Bankers close to the deal said they were looking closely at the issuers' own outstanding March 2026 bonds as a comparable for the new offering.

The March 2026 bonds were trading to yield about 4.40% on Thursday. After accounting for a curve differential of about 9bp for the 10-year and 12-year points on the curve, fair value for the new 10-year bonds would be a yield of 4.31%. The initial price talk calling for a 4.5% yield is therefore providing investors with an additional 20bp.

The yield looks likely to tighten, however, not only because of a lack of recent issuance from the Philippines, but also because the new bonds will not represent additional indebtedness for the issuer.

The Philippines will be using the new issue proceeds to buy back between US$750m to US$1bn of its outstanding bonds.

The bonds it intends to buy back are: the 8.875% March 2015s, the 8% January 2016s, the 8.75% October 2016s, the 9.375% January 2017s, the 9.875% January 2019s, the 8.375% June 2019s, the 6.50% January 2020s, the 4% January 2021s, the 7.50% September 2024s, the 9.50% October 2024s and the 10.625% March 2025 bonds.

If the Philippines manages to do as well as Indonesia did when it brought a two-part US$4bn offering on Wednesday, the final yield on its new bonds could narrow to as low as 4.25%. Indonesia's US$2bn 10-year tranche priced to yield 5.95% yesterday, tightening 25bp from initial price talk.

The last time the Philippines issued a 10-year bond it achieved a lower coupon of 4%. However, 4.25% yield would represent roughly 125bp over the 10-year US Treasury now. That would be 30bp tighter than the spread achieved in its previous 10-year deal, printed in October 2010.

Sovereigns have been quick to bring dollar bonds to market in this first full week of 2014. The Philippines would be the third after Indonesia and Sri Lanka. The nations are trying to beat a likely increase in funding costs later in the year.

Deutsche Bank, HSBC and Standard Chartered Bank are global co-ordinators on the new deal and, along with ANZ, Citigroup, Goldman Sachs, JP Morgan and Morgan Stanley, also are joint bookrunners on the SEC Registered bonds.

Deutsche Bank, HSBC and Standard Chartered Bank are the dealer managers for the buyback program. The bond is expected to price on Thursday. (Reporting by Neha d'Silva; editing by Abby Schultz and Christopher Langner)