Australian borrowers leave the guarantee safety net

IFR Asia, August 2009

A growing number of banks and states in Australia who have access to the government guarantee on their funding are opting not to use it.

Why? It’s really to make sure that issuers don’t lose touch with an investor base that has supported them over the long term, and who they will need to tap again when debt markets eventually regain their shape.

“There is demand from credit buyers who would prefer to invest in the credit rather than the guarantee, so it is important for us to ensure that those investors continue to be informed on our credit and have access to our non-guaranteed paper,” says John te Wechel, general manager of group funding at Commonwealth Bank of Australia.

CBA is a good example of this approach: it was the first Australian big four bank to issue without a guarantee, and so far has raised about A$6 billion in this way since the guarantee was first made available in November. While that’s much smaller than the A$26 billion it has raised with the guarantee in that time, it’s still a significant volume of funds.

Its landmark issue came in February, where it raised A$2.75 billion through a three-tranche self-led deal, within which one of the tranches, a three-year floating rate note bond worth A$250 million, did not carry a guarantee. (Strictly speaking, the first guarantee-eligible institution to launch a bond without one was Rabobank Australia a week earlier, with a A$800 million bond via Commonwealth Bank of Australia and Westpac, but it was the appearance of a Big Four domestic bank that really caught the eye.)

In early July, it took both approaches in the same week, raising A$3.3 billion in two issues. One was a self-led A$2 billion five year, with no guarantee; the other was a US$1 billion private placement of a four-year Regulation S/Rule 144a senior deal, with a guarantee, and led by CBA with Barclays Capital and Morgan Stanley.

CBA has been followed by other banks. National Australia launched an A$1.5 billion self-led three-year senior deal on April 29 without the guarantee. Other banks, and some Australian states, have also opted to issue without a guarantee when they could have opted to use one.

Clearly, a big issue to be considered here is price. Unguaranteed paper obviously prices wider than guaranteed, but issuers have to pay a fee to access the guarantee – in the case of double A rated banks, 70 basis points. When CBA did its February issue, this came out pretty much square: its unguaranteed tranche priced at swaps plus 130 basis points, while a guaranteed issue of A$500 million floating rate notes priced at 70 basis points over swaps, with the fee for the guarantee to be added.

These price differentials move around, making timing key. “The cost has to be comparable with where we issue with the guarantee, together with the guarantee price,” says te Wechel. “The spreads on guaranteed transactions have tightened in quite dramatically, as they have in non-guaranteed markets, although not necessarily to the same extent.” Te Wechel says, depending on the market, that difference can be as wide as 50 basis points or more, even allowing for the cost of the guarantee.

Te Wechel says that the tightening of spreads on guaranteed products shows that “investors seem to be taking the view it will become a scarce product, and we will be happy to issue into that demand as it arises.” He expects to continue to do both guaranteed and non-guaranteed funding through this year.

Banks have also started issuing into overseas markets without a guarantee. CBA was again the first here, but in somewhat obscure style, issuing in Thai baht at the end of May. While not a deep market, it has offered attractive cost of funds and a new investor base, and CBA will not be the last Australian bank to go there: ANZ too has approval.

In more mainstream markets, National Australia Bank has been more of a trailblazer, issuing in sterling and, most recently, in euros with a Eu1 billion seven year deal launched on July 9 via NAB, Deutsche Bank and UBS.

It’s not clear how long the guarantee is going to remain in place. “It’s difficult to know,” says te Wechel. “Some of the governments around the world have put a finite date on their guarantees, but a globally coordinated approach of moving away from guarantees would seem preferable.

“Until regulators and governments can be assured that banks will be able to meet their funding needs without the benefit of a guarantee, it seems premature to be thinking about removing them just yet.”