How a Little-Known German Debt Product May Flourish After Brexit

(Bloomberg) -- Bankers and investors relocating from London to Frankfurt after the U.K. leaves the European Union next year may have to get to grips with more than just a new language.

International issuance of a German debt product known as Schuldschein, which combines elements of both bonds and loans, is already expanding at a compound annual rate of nearly 50 percent, according to Scope Ratings. With banks including Morgan Stanley and Nomura Holdings Inc. setting up EU headquarters in Frankfurt, adoption of this once obscure structure may step up a gear as the international capital market adapts to its new hub.

“More familiarity with this historically German product on the ground can only be supportive for the overall market” said Felix Weiss, London-based vice president of medium-term notes, private placements origination and trading at Citigroup Inc. “Potential Brexit-related relocation of investors to Frankfurt might indeed help to grow the number of international investors even further.”

Going Global

The Schuldschein market is already carving out a bigger slice of international finance for itself, even without a pivot to Frankfurt. Little-known outside Germany until recently, almost a third of this year’s Schuldschein deals were from non-German issuers, according to data compiled by Bloomberg.

Investors are drawn to higher yields paid by borrowers than on more traditional loan or bond structures, according to Paul Kuhn, head of corporate debt capital markets origination at Bayerische Landesbank in Munich. For borrowers, Schuldschein can offer a more flexible, less complex way to raise finance with the benefit of “lean documentation,” he said.

For a ranking of banks arranging Schuldschein deals, click here
For a list of 2017 Schuldschein deals compiled by Bloomberg, click here

Non-German banks have been getting in on the action too. Citi arranged a 245 million euro ($285 million) Schuldschein deal for U.S. paintmaker Sherwin Williams Co. in August while Bank of China Ltd and Mizuho Financial Group Inc. have also managed recent deals.

Still Small

But while the market is expanding by half every year, it’s still small in comparison with traditional debt instruments. Schuldschein issuance this year stands at 24 billion euros compared with 336 billion euros in loans and more than 300 billion euros in European corporate bond issuance.

See also, Schuldschein Issuance Poised to Surpass 2016 Full-Year Record

Growth may also be hampered if the instrument falls within the remit of U.S. Securities Law, which may prevent arrangers and borrowers from inviting U.S. investors to participate in sales in order to avoid incurring a liability, according to says Neil Weiand, partner at Allen & Overy LLP.

Growth will probably outpace that of traditional debt volumes as more international borrowers use the product, according to Morris Gutermann, Landesbank Hessen Thueringen Girozentrale’s director of primary markets, who sees a “continuous, multi-year trend towards a more equal state of affairs.”

“There are, after all, a lot more non-German corporates than German ones,” he said.

©2017 Bloomberg L.P.

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