Norway Faces Liquidity Shock in Record Redemption: Nordic CreditStephen Treloar
Norway’s bond haven is about to become a lot smaller.
The government is preparing to repay a record 66.5 billion kroner ($11.8 billion) in 6.5 percent bonds maturing May 15, which is more than the top-rated nation has left to sell of its planned 70 billion kroner in issuance this year.
The redemption threatens to trigger an outflow of funds as foreign investors balk at the loss of liquidity, driving up existing debt prices and weakening the krone, according to analysts at Nordea Bank AB and Danske Bank A/S. Offshore investors own almost 60 percent of the maturing bonds, or about 38 billion kroner, Nordea estimates.
“The amount involved means that this flow could have a substantial market impact,” said Gaute Langeland, chief analyst at Nordea Markets in Oslo.
Norway, which boasts the biggest budget surplus of any AAA rated nation and has no net debt, emerged last year as a haven from the euro area’s debt crisis. Demand for assets perceived as safe from Europe’s debt crisis returned this week after an inconclusive election in Italy fueled speculation the nation may backtrack on austerity measures.
Norway’s 10-year yields slid seven basis points yesterday and a further four basis points today to 2.40 percent. The yield had jumped from a low of about 1.61 percent in July last year and about 2.14 percent at the start of the year. The yield on Norway’s 2015 note has rallied to about 1.51 percent, down from a high of 1.78 percent last month.
Norwegian government debt has the lowest credit default swap spread of any developed nation, according to data compiled by Bloomberg. Five-year default swaps traded at 19 basis points today. Default swaps on U.S. debt traded at 43 basis points yesterday, while it cost 40 basis points to insure against a German default.
Still, Norwegian bonds have lost 0.7 percent this year after European Central Bank President Mario Draghi’s July pledge to do whatever it takes to keep the currency bloc intact. That contrasts with Norway’s central bank, which has signaled it’s prepared to raise rates as soon as next month to cool an expansion even as policy makers in Sweden, the U.S. and the rest of Europe have pledged extended periods of low borrowing costs.
“We suspect that quite a few international investors will choose to repatriate their investments,” said Bernt Christian Brun, chief analyst at Danske Bank in Oslo. A relatively heavy issuance of Norwegian bonds in recent months has led to increased yields and widening spreads compared with German bunds, particularly on longer Norwegian bonds, Brun said.
Norway has held three auctions this year, selling a total of 10 billion kroner in the three separate bond issues. While it has only one auction scheduled next month, it plans for two sales in April and three in May, including one which settles on the day of the record buyback.
“Norges Bank is doing what they can to keep the assets in krone but we do expect to see some leakage out of the currency,” Brun said. “We expect to see krone weakness in the period leading up to the maturity date.”
The central bank will sell 70 billion kroner of long-term debt this year, it said on Dec. 20. It increased the number of government bond auctions to 21 from 17 even as the number of Treasury bill sales drops, it said. The government plans to borrow 12 billion kroner to 16 billion kroner in the bond market during the first quarter.
The auction calendar remains “particularly light in March and April,” said Langeland. “This may be a blunder as it is precisely in this period that spreads tend to widen.”
Swap spreads, or the difference between interest rate swaps and the yield on government debt, tend to widen between 15 basis points to 20 basis points in the two months to three months before bond redemptions, he said.
The government said that while it’s flexible, the oil-rich nation has no special need to cater to investor demands. Norway is western Europe’s largest crude and gas exporter and has a $700 billion sovereign wealth fund. The government takes about 4 percent of the fund each year to plug budget deficits.
“We have flexibility generally to adapt to what we think is the demand,” Sigurd Klakeg, deputy director general at the Norwegian Finance Ministry, said by phone Jan. 25. He declined to comment on whether the bank will increase the size of its issuance before the 6.5 percent bond matures. “It is not necessary for us because we have flexibility with a fairly substantial cash reserve,” he said.
The strength of the krone may also pose challenges to investors. The currency on Feb. 13 climbed to a record on an import-weighted basis, and has since weakened about 2 percent.
The strength may make investors hesitant to reinvest into comparatively more-expensive debt, Brun said.
Still, in a world still concerned about the depth of Europe’s crisis, Norwegian bonds are likely to find a home. If there are enough of them, that is.
“I suspect those international buyers who own the bonds bought them for defensive positioning, so I can’t see that has changed,” said Russell Silberston, a fund manager in London at Investec Asset Management Ltd. “Yields are relatively high, debt dynamics are the best in the world and the currency is strong.”