Viewpoint: Eurobond: Success and significance

Courtesy:- Ishaq Dar

After seven years, Pakistan has staged a successful comeback in the global capital market by selling Eurobonds to the tune of $2 billion — the largest ever bond offering by Pakistan.

But some in the country are not fully appreciative of the significance of this and there are misgivings, too, which I will address in this article.

Those who follow budgetary proposals are aware that since 2007-08, Pakistan would budget a $500 million foreign inflow on account of the bond issue, which, however, would remain elusive, as economic performance would not justify such issuance. An abortive attempt in 2010-11 was particularly notable.

After seven years this effort has finally succeeded. Against a planned size of $500m, the bond has attracted subscription of nearly $7bn, which was 14 times our expected amount. This performance constitutes a vote of confidence in the government’s policies.

Throughout the roadshows we were given an unusual reception by global investors, who were convinced of the economic turnaround taking place in the country. Investors trusted our claim that the process of reform will remain on track.

It is very instructive to look at the profile of investors who have subscribed to the issue.

The largest subscription of nearly 60 per cent came from the US, followed by 19pc from the UK and the remaining from Europe and Asia. The lead taken by the US is indicative of the largest global investors, such as Eaton Vance Management, Wellington Management, Ashmore Group, BlackRock, Goldman Sachs and Lazard, taking part in the bond. Thus, the most sophisticated of investors have expressed interest and purchased it in high quantities.

The success of the bond is also reflected in the pricing we have achieved. As we moved through the roadshows the lead managers’ syndicate, monitoring investors’ interests and preferences, told us that the investors were interested in two issues of five and 10 years. This was also suitable for us as we plan to build a series of issues with varying maturities.

The pricing process begins by signalling what is known as Initial Price Thoughts (IPTs).

Based on our rating (CAA by Moody’s and B- by Standard and Poor Financial Services), the pricing history of issues of other countries with similar ratings and the feedback received by the syndicate from investors after roadshows, we indicated IPTs of high 7pc and high 8pc for 5- and 10-year-bonds, respectively.

But the overwhelming interest shown by investors led to further tightening of this pricing and we finally got the deal closed at 7.25pc and 8.25pc, for the two bonds. This pricing represented a nearly flat spread of 5.5pc over the corresponding 5 and 10 years US Treasury Bonds.

Given our present credit rating, absence of seven years from the market and pricing structure in our domestic borrowings, the pricing we have received on the Eurobond is highly competitive and greatly in our favour.

The rupee component amounting to Rs 196bn equivalent to $2bn directly reduced the domestic debt of the government of Pakistan on the same day. Thus there is no net increase in the public debt.

The average price of 7.75pc we have received compares most favourably with the latest weighted average pricing of 12.38pc we have observed on the Pakistan Investment Bonds (PIBs) auction held on April 24, 2014. This means that the Eurobond is priced at 4.63pc points better than the PIBs. With exchange rate stability this margin means a phenomenal saving of around $90m per annum by shifting our debt from domestic to foreign.

Some critics have alluded to the size of bond at $2bn, suggesting that we should have restricted ourselves to the original size of $500m.

First, against a subscription of $7bn, accepting only $500m (meaning $1 from $14 on the offer) would have hugely disappointed the investors and laid the basis for poor trading in the secondary market, as there would have been no liquidity.

Second, the share of foreign debt in our public debt has declined from 30pc of GDP to only 18pc of GDP during the last five years, implying that the country was exporting capital by making more payments for debt servicing relative to fresh inflows. Because of this, government borrowings were hugely concentrated in domestic sources, which were depriving the flow of credit to the private sector.

Finally, in view of the pressing need to build foreign exchange reserves of the country, it would have been naive to refuse a higher amount on take for the same price. The flow of $2bn has led to significant reserves build-up, retirement of SBP financing, reduced dependence on borrowings from the commercial bank and a much larger space for the flow of credit to the private sector.

Pakistan had issued three bonds during the period 2006-07. The total amount raised was $1,550m ($500m for 10 year, $300m for 30 year and $750m for 10 year). The average price for the three bonds was 7.16pc. The credit rating for the country at the time was B2/B+ and B1/B+, significantly better than the rating inherited by the present government.

However, the PIB rates during 2006-2007 periods were around 10.12pc, implying only a small margin of 2.96pc below the domestic pricing.

This compares less favourably than the 4.63pc margin recorded in the present deal. Accordingly, the pricing of this bond is highly competitive despite lower rating that we are presently saddled with.

This is one of the major achievements in the last 10 months of the government, and we are determined to continue to work for complete economic revival.