Foreigners Ignore Brexit as Swaps Help Juice Sterling Bond Sales

(Bloomberg) --

Brexit anxiety might be high, but that hasn’t stopped European corporate bond issuers from selling a record amount of sterling-denominated debt this month. It makes perfect sense when cross-currency basis swaps can leave them borrowing for less than at home.

Take Credit Agricole SA’s 300 million pound offering of 5-year debt on Wednesday as an example of what’s possible. It priced around 1.36%. But should the company swap this to euros using cross-currency markets, the spread would shrink to 40 basis points over euro 5-year swaps, which would put the yield at around 0%. Euro-denominated bonds by the French bank sit around 0.3% for a similar maturity.

To get to a zero yield in our hypothetical example, the company enters into a sterling-euro cross-currency basis swap contract. Here’s how it would work:

Step 1

Convert new deal proceeds from sterling into euro with an agreement to swap it back to sterling at the same rate at maturity. This way they can take funds back to base to invest as they wish without anxiety about exchange rates.

Step 2

They receive floating sterling payments as part of the deal -- plus the ‘basis’ which is essentially a premium for having a sought-after currency to swap -- and use this cash flow stream to pay the coupons on the bond to investors.

Step 3

In exchange for receiving floating payments, they pay out the euro floating rate. This works for them as they can borrow in money markets or simply pay with other company funds.

Here’s what another example looks like, this time swapping euro for dollars:

Explaining Swaps, or How to Hedge Currencies: QuickTake Q&A

September is seasonally popular for corporate bond issuance and the attractive level of sterling basis -- a reflection of liquidity conditions -- seems to have tempted overseas borrowers tasked with making the call of where to issue bonds. This month total sterling debt sales from corporations and financial institutions has already topped 10.6 billion pounds ($13.1 billion), the largest in at least five years.

It’s left a mark too. The sterling-euro cross currency swap spread has narrowed across the curve by up to three basis points, a sign of demand to lend sterling while borrowing euros.

--With assistance from Paul Cohen.

To contact the reporter on this story: Stephen Spratt in Hong Kong at sspratt3@bloomberg.net

To contact the editors responsible for this story: Tan Hwee Ann at hatan@bloomberg.net, Cormac Mullen, Brett Miller

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