* Roadshows for benchmark-sized issue completed
* But market turmoil has worsened since then
* Proceeding with issue could be seen as sign of weakness
* Bahrain underperforming Gulf bonds by large margin
* Saudi support doesn't completely reassure investors
By Rachna Uppal
DUBAI, June 20 Bahrain faces a dilemma in coming
days as it decides whether to issue a sovereign bond at a time
of extreme volatility in global markets. It is a dilemma which
issuers confront around the world - but in Bahrain's case it
looks particularly acute.
The island kingdom, which is alone among the six oil
exporters of the Gulf Cooperation Council in running a sizeable
budget deficit relative to its economy, this week completed
investor roadshows in the United States, Middle East and Europe
for a potential bond issue of at least $500 million.
Since then, the rout in global debt markets has worsened,
after U.S. Federal Reserve Chairman Ben Bernanke said on
Wednesday that the U.S. economy was strong enough for the Fed to
begin slowing the pace of its bond-buying stimulus this year. He
signalled an end to the programme by the middle of 2014.
If Bahrain puts its issue on hold, as most borrowers around
the world are doing, it will risk having to pay much more when
budget pressures eventually force it to come to market; it has
no certainty the market turmoil will ease in coming months.
The 10-year U.S. Treasury yield is at 2.38
percent after Bernanke's statement; in the long term it may be
heading to around 4.0 percent, which some consider a "normal"
But if Bahrain goes ahead and issues its bond now, it will
leave itself open to investor speculation that it is simply
unable to wait as it needs the money urgently. Because of its
weak state finances, that speculation could be damaging.
"Looking to issue in such conditions will raise questions
about how desperately Bahrain needs to raise funds from bond
markets right now," said Chavan Bhogaita, head of markets
strategy at National Bank of Abu Dhabi.
He added that Bahrain would still be able to get a deal away
in current market conditions, if the pricing met investor
The acuteness of Bahrain's dilemma is at least partly
responsible for the underperformance of its debt since the bout
of market instability began.
Its $1.5 billion, 6.125 percent sovereign bond maturing in
2022, rated BBB by Standard & Poor's and Fitch
Ratings, is bid at a yield of 5.80 percent, its highest level
since last August and up 133 basis points since the end of May.
By contrast, yields on Middle East sovereign bonds have
risen 28 bps on average since the start of this month, according
to the HSBC Nasdaq Dubai Middle East Conventional Sovereign U.S.
Dollar Bond Index.
Bahrain has underperformed countries such as Turkey, which
is in the middle of its biggest political crisis in a decade.
The yield on Turkey's $1 billion sovereign bond maturing in 2022
is up 107 bps since end-May.
Behind the concern about Bahrain is its rising state budget
deficit; in May the International Monetary Fund forecast a
fiscal shortfall of 4.2 percent of gross domestic product or
roughly $1.2 billion this year, up from the 2.6 percent deficit
reported by the Bahraini government for 2012.
The country has succeeded in keeping its economy growing
during political unrest and street protests by its Shi'ite
majority that have continued since 2011.
But while many investors were willing to ignore the
political risk just a few months ago as they searched for yield
in a global environment of loose liquidity and falling interest
rates, they may become less willing against a background of
The long-term economic outlook may be more of a concern than
the political outlook, because trends in oil prices and
government spending appear to be moving the wrong way for
Bahrain. It needs to spend heavily to support the economy during
the unrest, but its small oil reserves are expensive to exploit.
Moody's Investors Service cited these trends last Thursday
when it put its Baa1 rating of Bahrain on review for a possible
downgrade, with the result to be announced in three months.
Moody's now rates Bahrain one notch above the other two
agencies; Moody's analyst Steffen Dyck told IFR, a Thomson
Reuters service, that any downgrade could be by one notch or
"The IMF estimates Bahrain's fiscal break-even oil price
close to $120 per barrel. Under the current forecasts for global
oil prices of just over $100, Bahrain will continue to run a
fiscal deficit for the foreseeable future," he said.
Key to Bahrain's finances is support from Saudi Arabia,
which is politically and economically close to the tiny state.
Bahrain relies on an oil field it shares with Saudi Arabia for
some 70 percent of its budget revenue, and investors expect
Riyadh to extend more financial aid if necessary.
However, the extent of Bahrain bonds' slide this month
suggests investors do not attach a 100 percent probability to
unlimited Saudi financial support.
"For Bahrain to successfully issue bonds, the key debate is
how much a $120 fiscal break-even oil price and unresolved
domestic political divisions are offset by support from Saudi,
and the desire among international investors to regain lost
ground and hunt for yield," said Dubai-based Hasnain Malik at
Frontier Alpha, an independent research provider.
Raza Agha, chief economist for Middle East and Africa at VTB
Capital in London, said that if Bahrain did go ahead and issue
in coming days, it would be reasonable to expect a new 10-year
issue to price at a spread of at least 350 bps over benchmarks,
considering where the 2022 bond was now trading.
He noted that with such pricing, Bahrain would still pay
less than it did to issue its 2022 bond in July last year.
Other options could be considered. Islamic bonds are
generally less volatile because of the buy-to-hold nature of
their traditional investor base, and would appeal to regional,
and especially Saudi, investors.
"Some could also argue that instead of a regular
dollar-denominated issue, a sukuk or a euro-denominated issue
may help improve pricing even further," Agha said.
Saudi markets are closed for the weekend on Thursday and
Friday, so a Bahraini sovereign deal looks unlikely to print on
those days. Market sources said Bahrain might proceed next week,
once markets had fully digested Bernanke's statement.
Even a smooth issue could prove expensive for both Bahrain's
finances and its profile among investors, however.
"If they go ahead, it will be out of necessity. Primary
markets will struggle, especially a Bahrain bond," a regional
fixed income trader said.
Bahrain has mandated BNP Paribas, Citigroup,
JPMorgan Chase & Co and GIB Capital, the investment
banking arm of Gulf International Bank, to arrange
any bond sale.