Issuer: Republic of Cyprus
Amount: $300 million
Launched: June 19 1997
Lead manager: SBC Warburg
If you're thinking of going to Cyprus for a holiday, next year could be a good bet. By then much of the proceeds from the government's debut bond issue will have been invested in road, sewerage and irrigation projects which should make your stay even more comfortable.
Not that this was the main reason for the Republic of Cyprus finally to enter the international bond markets. The Greek-controlled part of the island, which just a few months ago looked as if it was about to descend into war with the Turkish enclave to the north, was more concerned with getting its name known among international investors, and for that reason the central bank prohibited Cypriot banks from investing in the $300 million, five-year Eurobond.
Also, officials at the Central Bank of Cyprus were keen to diversify their funding strategy. "We had previously relied on syndicated loans for tapping the international markets, and our ECP programme for short-term funding," says Ioannis Ioannou, head of external debt operations at the central bank.
The deal was the inaugural public bond issued off Cyprus's $500 million EMTN programme signed one week before, and was lead-managed by the programme's arranger, SBC Warburg. Given the programme ceiling, the size of the bond issue was large, and somewhat unexpected. "It was a surprise to us, because it takes up over half the programme in just one issue," says one of the syndicate members.
Although it was the central bank which decided on the size of the deal, it, too, had some reservations. "We had been thinking about setting up an EMTN programme for about five years, and decided that to issue a public bond off it was more cost effective than doing a stand-alone issue first," says Ioannou. "Ideally we would have preferred the EMTN programme to be for $1 billion - it would not have cost any more to set up - but there were political restraints imposed on us from above."
For any international borrowing, the central bank has to receive approval from parliament, which is regarded as being conservative. It was only in April this year that parliament granted the go-ahead for a $500 million EMTN programme. "Even though the first issue was large given the size of the programme, our main concern was to have a successful, liquid bond in the market," says Ioannou. "On the advice of the lead manager and the dealers on the programme, we realized that we could only achieve this with an issue of $200 million to $300 million."
The only problem the deal encountered was to do with the split ratings - Moody's assigns the country A2, Standard and Poor's AA-. According to Ioannou, this is not so much a reflection of the country's economy, more an indication of the political risk associated with the dispute between Greek and Turkish communities on the island. In fact, though, Moody's appears to put more emphasis on the island's heavy dependence on tourism than a future conflict, which it judges unlikely.
The split ratings did cause some problems for the lead manager, but were not insurmountable. "It is a slightly unusual case, and it meant that we had to base initial price discovery on a wider basket of issues, such as Quebec, Korea's five-year deal, and some of the east European sovereigns," says Richard Johnson, head of syndicate at SBC Warburg. "The single-A rating from Moody's did rule out some European institutional clients, whereas S&P's double-A helped with the placement into the UK."
Those institutions which were able to invest in a single A credit were drawn to the paper because there are very few single A sovereign credits with a spread pick-up over treasuries as generous as 37 basis points.
Investor interest was sufficient for the deal to sell out on the day of launch. "We built the book up over the week of the roadshows, and the deal was sufficiently oversubscribed that we had to cut allocations to most investors," says Johnson.
Other members of the syndicate were also content with the deal. "A launch spread of 37 basis points over treasuries was bang on for this deal. The tightest it could have come at was probably 35 over, but you expect a couple of basis points extra for a new issuer," says Niall Cameron, director of syndicate at co-lead managers Merrill Lynch. Ioannau agrees: "It's a good benchmark for Cyprus. There might be some room for a slight improvement, but it's a good performance for a debut." Since launching, the spread has tightened, by one basis point on the day, and is now trading at 35.5 bp over.
Although the EMTN programme has been furnished with a 144A option to sell paper direct to US-based investors, the bond issue did not take advantage of this. It was sold primarily to European institutions - although Middle Eastern investors accounted for 20% of the paper. Merrill Lynch's Cameron explains that the 144A option was deemed unnecessary. "There was more than enough demand in Europe to place the paper, and given that it's got a single-A rating the pricing is too tight for US investors on a 144A basis, especially for a five-year deal," he says.
Another factor for not using the 144A option is that Cyprus wants to target European investors as part of its strategy to be admitted to the European Union. Cyprus applied to become a member of the EU in 1990, linked its currency, the Cypriot pound, to the Ecu in 1992, meets four of the five Maastricht criteria, and is expected to commence negotiations to become a member once the inter-governmental conference in Amsterdam is over.
Apart from the $200 million to be spent on various projects on the island, the rest of the proceeds have been used to refinance debt issued off Cyprus's ECP programme, so reducing outstandings to $250 million. There are no plans for any other issues, public or private, for the rest of this year. The central bank is due to discuss with the ministry of finance in the autumn any budgetary shortfalls which the EMTN programme might be able to cover, but all the syndicate members are quick to point out that Cyprus is in a good fiscal position. But the central bank is keen to issue public and private debt next year, with one possibility, given the island's desire to join the EU, being to issue euro-fungible debt, and another being to make use of the 144A option and place paper in the US.