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Corporates are paying inflation

Hidden issuers are using swaps rather than bonds

James, Barcap:
supply goes

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.