July 4, 2014 / 8:47 AM / 4 years ago

REVIEW-Indonesia pays on euro bond for peace of mind

* Sovereign sells first euro bond

* Pays premium to dollar curve

* Presidential election on July 9

By Christopher Langner

LONDON, July 4 (IFR) - The Republic of Indonesia’s first euro-denominated sovereign bond has underlined its determination to diversify its investor base even at a higher cost of funding relative to US dollars.

Last Wednesday’s 1bn (US$1.35bn) 2.875% seven-year bond, priced just a week before Indonesia elects a new president, drew an impressive response and attracted scores of new investors.

Based on cross-currency swap rates, however, Indonesia paid about 25bp more than its US dollar funding costs, showing that the government was prioritising speed and diversification over price.

“They have issued a lot in the dollar market and they did a US$4bn deal in January, so it made sense for them to diversify,” said a banker close to the deal.

The euro deal also means Indonesia has met most of its foreign currency funding needs for the year, reducing its exposure to potentially volatile market conditions in the second half.

Robert Pakpahan, director general of Indonesia’s debt management office, said in an interview late last year the sovereign expected to raise around US$5.8bn offshore in 2014.

Still, rival bankers criticised the decision to go ahead with the deal, noting that cross-currency swaps had moved against it in recent weeks and arguing that Indonesia could have paid less had it waited a bit longer.

The leads, however, contended that time was not on the Republic’s side, with presidential elections due on July 9.

Had the sovereign waited for better pricing in the euro market, they said, it may have been stuck until new finance ministry officials were appointed and new debt issuance approved.

“Usually when a new finance minister comes approvals for debt issuance are renewed before they happen and that can take a while,” said a banker close to the deal.

Some investors demanded a premium for the uncertainty surrounding the outcome of Indonesia’s elections, where former general Prabowo Subianto has almost eliminated the early advantage of rival candidate Joko Widodo, favoured by foreign investors because of reform agenda.

This, said the portfolio managers, meant that the bonds should offer a higher yield in return for the risk they carried. Bankers said that these accounts dropped out of the books when the price talk was tightened to 200bp area, but that there was more than enough demand from other parts of the world.

Indonesia, rated Baa3/BB+/BBB-, priced the deal at 195bp over mid-swaps, 30bp inside initial price guidance of 225bp over. The bond, with a coupon of 2.875%, priced at 99.370 to yield 2.976%.

Bankers on the deal said the final spread of 195bp over mid-swaps compared well to the 190bp Z-spread at which Indonesia’s dollar-denominated 2021 bonds were trading.

Rivals, however, pointed to the cost of swapping between the two currencies. A cross-currency swap would put the euro bond at 215bp over three-month US dollar Libor, about 25bp back of Indonesia’s existing US dollar 2021s.

Traders also looked at Indonesia’s more liquid 2024 dollar bond that was trading at the equivalent of 185bp over Libor. That suggests a new seven-year bond would have come 30bp-40bp tighter in US dollars.

Spreads on euro-denominated bonds for several Triple B rated sovereigns have widened relative to those of dollar bonds in the past couple of weeks as flows into Europe have shifted euro-dollar basis swaps.

After swaps, the seven-year point of Brazil’s euro-denominated curve was trading 5bp wide to its dollar-denominated curve, Russia’s differential was of 10bp and Mexico’s was 30bp.

When Indonesia prepared to start its roadshow last month, the funding costs in euros for all these sovereigns were inside their dollar funding costs.

Rising swap costs made little difference to euro investors, however. Indonesia’s 1bn deal received an impressive 6.7bn in demand from 400 accounts.

Fund managers bought 65% of the bonds, banks and private banks bought 15%, central banks and sovereigns bought 12% and insurers and pension funds bought 8%.

Investors in the United Kingdom bought 24% of the bonds, Asian investors bought 24%, German and Austrian investors bought 19%, American investors bought 18%, Swiss investors bought 4% and investors elsewhere in Europe bought 11%. (Reporting by Christopher Langner; editing by Steve Garton)

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