When Stuart Thomson at Ignis Asset Management in Glasgow was waiting for the results of Portugal’s January bond auction, he didn’t know that government-picked bond dealers got the results early, giving them a head start in judging the sale’s success.
Portugal’s debt agency, IGCP, sent the results of its sale of 2014 and 2020 securities on Jan. 12 to its 18 primary dealers, financial companies required to bid at bond auctions, a few minutes before the information was made available to the public, three people with knowledge of the matter said. The country, which became the third European nation to seek a bailout, routinely gives dealers an advantage, they said, providing an opportunity to buy or sell before the details reach the public.
While legal in the euro region, money managers say the practice in Portugal and at least Italy and Austria may undermine the European Union’s credibility with investors at a time when they need them most. The EU and International Monetary Fund have already bailed out Greece and Ireland, and late yesterday Portugal asked for aid.
“Everyone who has an interest in a bond auction should get the results at the same time,” said Thomson, who helps oversee $110 billion in assets. “This is market sensitive information. It should not be the case that certain groups have an investment advantage.”
Bond auctions have become more important than ever as an indicator of investor confidence as the euro region’s sovereign- debt crisis deepens. Before yesterday, HSBC Holdings Plc forecast Portugal, Italy and Spain would sell a combined 320 billion euros ($456 billion) of debt this year alone.
Debt sales by countries such as Portugal have become “big market events over the last year” because there’s a growing risk of a failed auction, where investors refuse to buy all of the securities on offer, said Steven Major, global head of fixed-income research at HSBC in London.
The IGCP typically gives dealers advance word, said the people familiar with the practice who asked not to be identified because they’re not authorized to speak to the press about the procedure. Primary dealers see details of their allotment and so-called tender summary results, which include prices, yields and the amount of bids compared with the securities on offer, via the Bloomberg Auction System before the information is seen by other traders and investors.
Alberto Soares, head of the debt office in Lisbon, said “we follow standard market practices,” declining to comment further. Primary dealers in Austria and Italy also receive the results before they are made available to the public, according to their debt agencies. The gap on Italian sales is a few seconds and occurs because of technical reasons, not policy, said a spokeswoman at the Bank of Italy in Rome, who asked not to be identified because of central bank policy.
Portugal’s January auction wasn’t a single occurrence. Primary dealers received the results of an April 1 sale by the nation of 1.65 billion euros in June 2012 securities before details were made available to the public, two of the people familiar with the matter said.
“In the past, this kind of practice might not be noticed at all, but the crisis has changed all that,” said Thomson. “We give premiums to liquidity and transparency. If your debt market is illiquid, your credit standing is questionable, and your practice is not transparent, it’s unlikely that we will treat your bonds like sovereign securities.”
The U.K. Debt Management Office also uses the Bloomberg system, giving their 20 primary dealers the results at the same time as the market, according to the debt agency.
Ireland gives its primary dealers details of the highest, lowest, and average prices first so they can assess what they have bought, before providing the complete results to everyone in the market, according to the National Treasury Management Agency. The nation hasn’t sold debt since it received an EU-led bailout in November.
The EU’s financial services department said it has no say over auction practices of member countries.
“From the perspective of compliance with the market abuse directive, the directive doesn’t apply to activities of a member state carried out in pursuit of its debt-management policy,” said Chantal Hughes, a spokeswoman for Michel Barnier, the EU’s financial services commissioner.
‘Same For All’
Debt agencies in the U.K, France, and Spain said their dealers receive auction results at the same time as the market. The U.S. government makes the outcomes of debt sales available to everyone at the same time through the Treasury Automated Auction Processing System, or TAAP.
“Our result is published at the same time for primary dealers, investors or journalists,” said Pierre Salaun, a spokesman for Agence France Tresor in Paris. “We don’t want one participant to have information others don’t have. It’s the same for all the information we publish.”
The bond market has become increasingly volatile around auctions. The average daily move of Portuguese five-year bond yields in January was about 10 basis points, or 0.1 percentage point, higher or lower from the previous day’s closing levels, according to data compiled by Bloomberg.
The five-year yield jumped 35 basis points, or 0.35 percentage point, on Jan. 6, when the IGCP said it would sell October 2014 notes the following week. The five-year yield fell 14 basis points on the day the securities were sold.
Primary dealers are expected to participate when governments auction debt to ensure there’s enough demand to keep borrowing costs low. Dealers have an obligation to buy a certain amount of debt issued each year and to take the risk they might not be able to sell the bonds afterward.
In return, dealers benefit because, in most cases, investors have to buy the securities being auctioned. Central banks and some pension funds will only do business with such firms.
“In an ideal world, this type of information should be released to everyone at the same time,” said Chris Golden, chairman of the European Bond Commission in London. “This practice is acceptable so long as everyone knows the rule, or they can find out from publicly available information that’s the rule. This advantage might be part of the package that compensates them for some obligations they have to take on as primary dealers.”
Portugal’s dealers are: Banco Espirito Santo SA, Banco Santander SA, Barclays Plc, BNP Paribas SA, Caixa Banco de Investimento SA, Citigroup Inc., Credit Agricole Corporate & Investment Bank, Credit Suisse Group AG, Deutsche Bank AG, Goldman Sachs Group Inc., HSBC, ING Groep NV, Jefferies Group Inc., Morgan Stanley, Nomura International Plc, Royal Bank of Scotland Group Plc, Societe Generale SA, and UniCredit SpA.
Citigroup, Deutsche Bank, and Goldman Sachs declined to comment on Portugal’s auction procedures. The other dealers didn’t respond to questions.
The euro region’s most indebted nations have faced record borrowing costs after the sovereign-debt crisis erupted in 2009, when Greece’s new Socialist government said the budget deficit was twice what the previous administration reported.
Aid measures, including a 750 billion-euro EU-IMF backstop created 11 months ago, and plans to beef up rescue mechanisms after 2013, have failed to ward off bond yields soaring to all- time highs and credit downgrades.
The extra yield investors demand for holding 10-year Irish bonds instead of the benchmark German debt surged to a record 6.99 percentage points on March 31. The cost of insuring against a default on Portuguese sovereign debt with credit-default swaps rose to 5.79 percentage points on March 31, even as the government said the country didn’t need a bailout.
Portugal’s IGCP has said it intends to sell as much as 20 billion euros of bonds this year to finance the budget and repay maturing securities. The country faces bond redemptions of about 9.1 billion euros on April 15 and June 15. It will need to raise at least 32 billion euros between 2012 and 2014 to repay bonds coming due.
Portuguese “auction results should have been disseminated to everyone who has an interest in the sale at the same time, instead of market makers getting priority treatment,” said Robin Marshall, a London-based money manager who helps oversee about $20 billion at Smith & Williamson Investment Management. “I don’t think it’s right that anyone should get a leading edge, when everyone bid for it on the same basis.”
Yields on Portugal’s 10-year debt rose to records relative to bunds this week after Prime Minister Jose Socrates resigned following opposition parties’ rejection of budget cuts.
Standard & Poor’s cut Portugal’s classification for the second time in a week on March 29, citing concern new EU bailout rules may mean the nation reneges on its debt. Fitch Ratings lowered its ranking on April 1, and said it may downgrade the rating to below investment grade.
A rescue package for Portugal may total as much as 70 billion euros, two European officials with direct knowledge of the matter said last week.
EU governments will wait for Portugal to make a formal request before assessing the terms and size of any bailout, said a German government official, who spoke on condition of anonymity yesterday. The IMF stands ready to assist, though it hasn’t been asked for aid, a spokesman said in an e-mailed statement.
‘Crisis of Confidence’
Europe’s debt market has been dogged by other disclosure incidents. Greece hid 5.3 billion euros of debt by using derivatives, the biggest of which were with Goldman Sachs, Eurostat, the region’s official provider of statistical information, said in November.
The off-market swaps allowed Greece to receive payments upfront and helped to reduce the country’s foreign-denominated debt by 2.37 billion euros in 2001, according to a statement by Goldman Sachs on Feb. 21, 2010.
Greece entered into a “large” number of such off-market swaps from 2001 through 2007, according to Eurostat. Italy, Germany, Poland and Belgium also used them, and they adjusted their debt figures after Eurostat queried the practice in 2008.
“The euro region is facing not just a debt crisis, but also a crisis of confidence,” said Oliver Holtemoeller, head of the macro-economic department at the Halle-based IWH research institute in Germany. “When things are not what it may appear or don’t have credibility,” he said, “it’s hard to maintain confidence among investors and the public.”
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