Corporate bonds: US corporates pick off euro and sterling trades

Duncan Kerr
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Basis swap dictates issuer behaviour; European investors look outside euro credit

US blue-chip companies are increasingly picking off opportunities to sell euro and sterling bonds at competitive pricing levels versus dollar funding.

AT&T, PepsiCo and IBM have led the trend, ending several years of self-imposed exile from the euro bond market.

Last month, AT&T sold €1 billion of 20-year bonds – the longest benchmark-size euro bond from a US issuer since Wal-Mart in 2009 – after an earlier sale of €1 billion of eight-year bonds in November: its first euro bond issue since March 2008.

IBM sold €1 billion of seven-year bonds in November, marking its first euro bond issue since 2008. PepsiCo accessed the sterling market for the first time in October when it sold £500 million of 10-year bonds.

It is not just US blue chips that are mining this opportunity. Rio Tinto, which traditionally funds in dollars, sold a combined €1.25 billion of seven-year and 12-year bonds, and £500 million of 17-year bonds last month – the first time it had accessed either market.

Corporate borrowing costs globally, and particularly in the eurozone, have plummeted to near record lows. The average yield for A-rated non-financial companies in the iBoxx Euro Corporate Bond Index has fallen to 1.85% from 4.44% at the start of 2012, according to data provider Markit.

Sterling and euro appeal

Miles Millard, global head of capital markets and treasury solutions at Deutsche Bank (which was co-lead with HSBC and UBS on PepsiCo’s 10-year sterling bond), says that the resurgence in sterling as a currency of choice, and improved funding spreads in euros and sterling for non EU-based corporates were two of a number of visible developments in the corporate bond market in 2012.

The favourable currency basis swap between US dollars, euros and sterling means that US corporate issuers can sell euro and sterling bonds, and swap the proceeds back into dollars at a lower, or similar, cost to selling dollar bonds. This is driving much of the deal flow.

However, European investors also want to diversify their portfolios outside of European credit, and US blue chips are prime targets.

“To some extent, European investors may have been forced to diversify because a number of European issuers may have moved out of their mandate, or perhaps they might prefer not to take on some lower-grade risk,” says Jonathan Brown, head of bond syndicate, Europe, at Barclays, which led AT&T’s 20-year bond with Bank of America Merrill Lynch.

“There have been various rating changes through some of the main geographies in Europe, and if there is a new solid high-quality US issuer coming to Europe, then that will be attractive to European investors looking for diversification.”

Jeff Tannenbaum, head of debt capital markets syndicate for Europe, the Middle East and Africa, at BAML in London
The attraction for US corporates of offering this to them has, however, been limited until recently.

“In euros, the cross-currency basis has been punitive over the last 18 to 24 months, which has meant that, from an arbitrage perspective or even from a relative comparison perspective, it has been very expensive for US corporate issuers to print in euros and swap these proceeds back to dollars,” says Jeff Tannenbaum, head of debt capital markets syndicate for Europe, the Middle East and Africa, at BAML in London.

“However, when market volatility dies down, as has been the case recently, that improves the cross-currency basis and opens the door to US corporates printing in euros.”

It is a similar situation in sterling, he says, adding: “US corporate issuers have come to the sterling market this year in particular because of the arbitrage opportunity. I would say the majority of US corporates that we’ve seen come this year have been able to seize the arbitrage when swapping sterling proceeds back to US dollars because the currency basis has been relatively stable. There are, however, certain instances where US issuers have paid-up a little bit."

The drive for diversification means that some corporates might be prepared to pay up to access different markets, even if it might be cheaper to fund at home. “US corporates have very deep access in the US dollar market,” says Tannenbaum. “But as the funding needs of the larger corporates have increased, they are conscious of diversifying their global funding. They think about that in two ways: first, achieving the best possible funding at any given point in time; second, match funding, or even paying-up a little bit, in an alternative currency to support the overall funding curve in the US dollar market.”

AT&T, for example, has about $80 billion of debt outstanding, so if it can take pressure off its dollar-funding curve by issuing in another currency in size, in maturities that help smooth its debt-maturity profile, and at a cost that is similar or lower than what it can achieve in dollars, then that strategy is compelling.

However, Tannenbaum does not expect a substantial influx of US corporate issuance into the euro or sterling market. “More broadly, I can see an increase in US issuers accessing the global currency markets because funding will be comparable or at least as attractive as local funding,” he says. “And therefore their ability to outsource their funding from their traditional investor base is an attractive proposition for them.”