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James, Barcap:
supply goes
unnoticed |
The absence of inflation-linked bonds following Veolia Environnement’s groundbreaking issue in June doesn’t mean that corporates aren’t interested in paying inflation.
In particular, the rapid development of limited price inflation (LPI) swaps means that a lot of UK corporate supply goes unnoticed.
“UK utilities and PPP companies have been big sources, but there’s been almost no issuance of inflation-linked corporate bonds this year,” says Alan James, head of inflation-linked research at Barclays Capital. “But issuers are paying inflation in record amounts, either indirectly, or by issuing bonds into holding companies, which then pay, for accounting reasons.”
Paying inflation through swaps rather than bonds will remain popular into 2006. “Where spreads in linkers are wider than spreads in nominals, you see negative basis trades,” says Chris Thomas, head of GBP inflation trading at RBS Financial Markets. “In time, the arbitrage between nominals and linkers may disappear, but I don’t see that happening in the next six months.”
In theory, AAA credits should be happy to issue inflation-linked bonds. On November 16, the European Investment Bank issued a £100 million ($171 million) 2016 linker. It makes sense for the EIB to issue inflation direct into the market. The market cannot find any arbitrage between synthetic asset swaps and CDS because there is no market for CDS written on the EIB name.
But even EIB has been an opportunistic linker issuer in 2005. “That’s the first real sterling bond issuance this year,” says James. “The EIB could have swapped out at Libor minus 19 or 20 basis points, which is right in the middle of their funding target, because 10-year asset swaps in linkers have gone to minus 42bp, which is the widest they’ve ever been.”
The EIB deal was also unusual because of its tenor. “Middle-curve government inflation bonds are quite rich on asset swaps, but that window’s only been open for the last couple of months,” says Thomas. “The EIB deal feels like it was prompted by a specific need to generate some 10-year inflation swaps. Most inflation comes in the 25 to 30 year part of the curve.” At the long end, asset swaps will remain narrower than nominals.