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AFRICA IN THE INTERNATIONAL BOND MARKETS: African sovereigns go mainstream as investors shift focus away from Russia

Source:www.emergingmarkets.org
Africa has been on the cusp of mainstream capital markets for years. While the continent made a breakthrough in the variety of issuance it produced in 2012-13, 2014 looks like it will be the year when African borrowers finally become established

Africa may still be the frontier of the emerging markets but bankers and investors alike are keener than ever to explore it. Africa, once an acquired taste, is becoming the staple diet of the CEEMEA market.

In stark contrast to the volatility around Russia and Ukraine and the resulting dearth of issuance from those countries, African bonds have accounted for 12.7% of all CEEMEA issuance so far in 2014, up from 7.4% in 2012 and 6% in 2011.

“Africa’s piece of the pie has definitely grown,” says Nicholas Samara, an origination official at Citi in London. “It makes sense considering also that we had record years of volumes for Russian paper in 2012 and 2013 yet business from Russia has been almost non-existent this year. But even in absolute volume terms, the sovereign supply is already beating the full year number for 2013.”

In the whole of 2013, $7.5bn of African sovereign paper was printed, according to Samara. Around $7.8bn had already been sold by August 2014 and more is expected by the end of the year — Ghana issued a $1bn note via Barclays, Deutsche Bank and Standard Chartered Bank, and South Africa finally launched its debut sukuk, a $500m deal

Samara expects the total volume of African paper printed to exceed $9bn by the end of the year, with the appetite for Africa having become self-perpetuating — the sovereign bonds have outperformed this year, especially compared to previously stable countries such as Russia.

“There was some local currency chaos early in the year as markets worried about quantitative easing but over the last six months, as monetary policy has remained accommodative, the returns on investing in African bonds have been somewhere around 8%-9%,” says Samara. “The rallies have been impressive.”

Over the summer African sovereign paper continued to flourish. Gabon’s paper went from trading at a yield of 5.5% in June to 5.12% at the end of August. Ghana’s 2017s tightened from 9% to 8.21% in the same period and Zambia’s 2024s from 6.875% at pricing in April to 6.4% at the end of August.

“Interest in African paper is as high as ever,” says Nick Darrant, head of CEEMEA syndicate at BNP Paribas in London. “Investors want diversification, yield and index eligibility and the African sovereigns can offer all of this.”

SIZE ON THE RISE

The large volumes of African sovereign bonds printed have been helped by the large individual sizes of these deals, driven by the growing attractiveness to investors. The average size of a sovereign bond has increased from $550m in 2011 to $1.1bn in 2014, according to Dealogic. Kenya stole the show this year, printing an unexpectedly large $2bn dual tranche note, but Zambia also printed $1bn, South Africa a $1bn and €500m dual trancher and Morocco a €1bn deal.

“The sizes have grown faster than we expected,” says Megan McDonald, head of DCM at Standard Bank in London. “And the frequency is growing because we’re now starting to see repeat issuers as well as oil and gas companies, telcos and financial institutions. On the sovereign side, once the debut is done, the parliamentary approvals and paperwork are in place so second and third bonds are much quicker.”

John Wright, a syndicate official at Barclays in London, agrees, saying that 18 months ago a $500m-$750m size for any African borrower was considered an excellent result but the depth of liquidity has improved significantly.

The Ukraine crisis this year has played a part in increasing the attraction of African credit. “A lot of the institutional money that was removed from Russia needed to find a home,” says McDonald. “It was diverted to other EM economies and Africa sovereign issuance was very much one of those. It’s definitely been beneficial for them.”

Despite the increased importance of Africa within CEEMEA, bankers do not expect staffing at banks to increase to cover the region. Though the continent is large and varied, Eurobonds are still only sporadically printed and slow to come to fruition. When Nigeria printed its debut in 2011, it had been working on bringing that deal for 10 years. Kenya, which sold its debut only this year, had been working on that transaction for 15 years.

“The growth of the economies in Africa is rapid but the growth of issuance volumes is not,” says Samara. “Everyone from politicians to bankers is showing support and there is continued interest from the banks to provide funding, but access to the Eurobond market doesn’t happen overnight, it takes careful consideration and a lot of work. All 54 countries from Africa are not suddenly going to be in the market. It’s a massive area with huge potential but it’s not such a deep market yet.”

Jacki Collins, an Africa DCM banker at Barclays in London, agrees. “We have now seen a few issuers print that we were waiting to come for some time,” she says. “But this pace of debut issuers won’t keep up, certainly not in the sovereign space. The immediate fast growth of the market will likely come from the expansion into banks and high yield corporates.”

But some new sovereign business is still appearing and McDonald says that even debut issuers are bringing deals to the market faster. For example, Ethiopia is a debut issuer rumoured to be looking to tap the market soon but it only started the bond issuing process two years ago.

The international bond market for African issuers has been dollar led. But one of the next big steps for African issuers — especially those with frequent funding needs — will be to tap a greater variety of currencies. “It’s definitely something that is starting,” says McDonald. “South Africa sold a euro tranche this year and there was good appetite for that, and with the strong trade links between Africa and China, several issuers are considering renminbi. We’d expect to see the first one of these trades in the next 18 months.”

African sovereigns are also increasingly looking at Islamic finance. Indeed, Senegal printed a mostly locally sold shariah compliant note in July. However, South Africa drew $2.2bn for its $500m five year sukuk in mid-September and placed over half of it into the Middle East. Lead banks on the deal, BNP Paribas, KFH and Standard Bank, said it offered a tightly priced benchmark for other Africa sovereigns like Kenya to follow and were in no doubt that Islamic investors are hungry for more Africa sovereign issuance.

But African issuers are known to be price-sensitive and sovereign sukuk for non-Islamic states tend to print at spreads wider than conventional deals, as demonstrated by Turkey’s two sovereign sukuk issues in recent years.

“Sovereign sukuk can pay up to 25bp more than conventional paper so it’s much more expensive funding for issuers,” says another EM syndicate official in London. “Though the South Africa deal is likely to go well, there’s no evidence yet that sukuk buyers want sub-Saharan African paper. I can’t see a broad range of issuers coming to this market.”

But Collins at Barclays suggests that there is also a non-bond market benefit to consider in embarking on Islamic financing. “There is no lack of depth of demand for African sovereigns in the conventional dollar market. It’s more straightforward in terms of documentation to issue a conventional deal, especially for those who have already done a debut trade,” she says. “But there are political reasons behind issuing sukuk. Bringing in Islamic investors helps to tighten ties with the Middle East and that is valuable in itself, though I wouldn’t expect all African sovereigns to look at this market.”

McDonald says issuers will be realistic on pricing in this market. “For any issuer, getting a deal away at competitive pricing is important,” she says. “But there is the attraction of the liquidity available at a not significantly inflated price. A balance has to be found.”

PRIVATELY DOES IT

Zapping some of the supply in the public market, though, is the growth of small and medium sized private placements for sovereigns, as well as other entities from Africa. Several $50m-$100m deals are being done in this format, aside from the benchmark sized bonds for Angola, Mozambique’s state owned Ematum and Tanzania over the last two years. Some are repackaged bank loans.

“As investors have become more comfortable with the continent, the number of private placements has grown,” says Darrant. “In a low rates environment, they’ve become happier to hold an illiquid asset with less disclosure in return for a turbo charged yield.”

And some issuers are happy to take the opportunity to sell such a bond as the speed at which such a deal can happen, in many instances without a rating, is much faster than for a public benchmark deal. But some argue that because of the smaller sizes the private and public markets are not in competition.

Bankers insist, however, that even though investors are more comfortable in the region than ever, there are two key, consistent elements that debut issuers need to drum up demand: a strong use of proceeds and projects with clear potential for good returns. Investors believe there is growth to be found on the continent but only if the money they hand over is put to good use.

African sovereigns are not immune to volatility. They may well be caught in another taper tantrum when the US Federal Reserve finally tightens interest rates. But for the moment, most CEEMEA investors are happier to explore the new frontier than bet on the outcome of a Russian conflict with the West.

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