The Dazzling Debut Of The Euro Bond

In time, it could be Europe's prime source of corporate cash

Abbey National PLC didn't wait long to test the waters of Europe's brand new bond market. The British bank has long been one of Europe's largest corporate borrowers, and it wanted to be among the first to try borrowing in the Continent's new currency, the euro. On Jan. 14, the bank did it in a big way, launching a 2 billion euro ($2.3 billion) floating-rate note, the largest bond issued to date by a private-sector borrower. "An absolutely gigantic market has opened up," says Alex Braun, director of funding and asset management at Abbey, a giant mortage lender.

Europe's old fragmentation into multiple currencies smothered the growth of capital markets. But borrowers and investment bankers alike now see the euro as a catalyst that will nurture a huge, liquid debt market as in the U.S. with its broad range of corporate and municipal credits. In time, the euro debt market could dethrone bank lending as the prime source of corporate cash. Richard A. Deutsch, co-head of fixed income research at Merrill Lynch in London, figures about 55 billion euros in investment-grade corporate and municipal bonds will be issued this year, rising to as much as 150 billion a year in the early 2000s.

BLUE CHIPS, TOO. Signs are emerging of the new market's potential. Already it is prompting the rise of a municipal bond market with Vienna and Aubagne, a city in southern France, floating early offerings. French corporations, including auto maker Renault and conglomerate Vivendi, have announced euro bonds, while American blue chips Gillette and General Electric Capital Services also are trying out the euro.

Indeed, GE Capital's foray is a warning shot to London, traditional hub of Europe's capital markets. The financial services wing of General Electric Co. is the largest American issuer of commercial paper, with $93 billion outstanding. Now, it plans to place some 9 billion euros' worth of commercial paper by yearend from Paris, not the City. GE Capital's assistant treasurer Mark Barber figures that euro zone mutual funds and insurers have a gigantic $750 billion appetite for short-term, high-grade paper. And with Britain staying out of the euro for now, Paris seemed a natural. "The French commercial paper market is well developed and is the largest in the euro zone," says Barber.

The euro has a lot going for it. It makes more sense for European corporations to borrow in the new currency than in dollars, as many have in the past. Since their assets will soon be figured in euros, they lessen currency risks. Even companies not based in the euro zone can find it worthwhile to tap the market. GE, for instance, is paying less than 3% for its euro commercial paper, compared with 4.75% on similar short-term U.S. debt. Likewise, Gillette's 300 million euro issue pays interest of 3.4%. "It would have been substantially higher in dollars: more than 5%," says assistant treasurer Walter B. Ochynski.

But, before the euro market really takes off, investors will have to get over early skittishness and become more sophisticated. Until a year or two ago, fixed income investing in Europe was largely limited to buying top-rated bonds and watching them appreciate as interest rates declined. But fund managers such as Mercury Asset Management in London are betting that today's low rates will nudge investors into junk bonds and other more complex credit plays. Mercury recently launched a euro high-yield fund.

The chance to make an early pitch to such euro zone investors was one reason Abbey chose to do its deal in euros when it was shopping for money. Abbey went to the markets at a difficult time. Brazil's currency crisis was making investors nervous. But Barclays Capital Inc., which led the deal, convinced the bank that it was just the sort of borrower euro-hungry investors were looking for these days. Abbey is a solidly rated, predictable business with little international exposure. It will pay an interest rate of just four hundredths of a percent over euribor, the rate banks charge each other for euro borrowing.

Understandably, Abbey's Braun is delighted. The bank's paper went to a broad range of investors across the Benelux countries, France, Germany, and Britain. He doubts that he could have done a deal of this size in sterling--although he thinks he could have obtained similar terms in dollars. "For top quality borrowers, the euro makes it easier," he says.

The euro will probably push companies to borrow larger amounts, less frequently. That may be why Deutsche Telekom just about doubled an offering from 2 billion Deutschemarks to 2 billion euros. But few of the big players are complaining about the arrival of one-stop shopping in Europe.