First South Korea Dollar Debt Sale in 4 Years Seen Delayed

South Korea probably will put off plans to sell its first dollar bonds in four years after North Korea’s war threats drove borrowing costs to a six-month high, say Mizuho Financial Group Inc. and Western Asset Management Co.

The extra yield investors demand to hold South Korea’s sovereign securities instead of U.S. Treasuries reached 99 basis points last week, the biggest premium since Sept. 27, as hostilities with North Korea escalated, Bank of America Merrill Lynch data show. The gap widened 20 basis points in the five days ended April 5, the biggest jump since September 2011, and was 98 basis points yesterday.

“I don’t believe any of the Korean issuers will issue at the current funding levels,” said Jeffrey Yap, the Hong Kong-based head of Asian fixed-income trading at Mizuho Securities Asia Ltd. “Everybody is waiting to see whether there’s a missile test that North Korea claimed it will hold. There’s a high chance that the spread will narrow again from here.”

The Finance Ministry said today it is monitoring market conditions and no decision has been made yet on a dollar bond sale, including the size and timing. Citigroup Inc., Deutsche Bank AG, Goldman Sachs Group Inc., HSBC Holdings Plc, Korea Development Bank and Woori Investment & Securities Co. have been selected as arrangers, MoneyToday reported, citing unidentified industry officials. The ministry declined to comment on the report, as did three of the international lenders that responded to Bloomberg enquiries on the matter.

Daegu Bank, located in Daegu, South Korea, is also considering a sale of dollar notes, a person familiar with the discussions, who asked not to be identified because the details are private, said on April 3. A director at the bank’s international finance department, who asked not to be identified, declined to comment yesterday.

Yields Climb

The yield on Korea’s 5.75 percent sovereign dollar bonds due April 2014 advanced eight basis points, or 0.08 percentage point, since April 5 to 1.22 percent, after jumping 19 basis points last week. Yields on longer-maturity bonds rose at a slower pace, with that for notes due in 2019 climbing eight basis points this month to 2.07 percent, data compiled by Bloomberg show.

“If they want to place the issue, it shouldn’t be a problem,” Boon Peng Ooi, who oversees $20 billion in Asian fixed income at Eastspring Investments Singapore Ltd., said in an interview in New York yesterday. “It depends on whether they think the yield is acceptable. For $1 billion issuance, 10-20 basis points is quite a lot of money. Unless I really need the money, I’d put it off.”

Missile Test

South Korea’s foreign-exchange reserves totaled $327.4 billion at the end of March and the Finance Ministry said today the nation’s banks have an ample supply of foreign currency.

Overseas borrowing costs are climbing as President Park Geun Hye seeks to revive the slowest economic growth in three years. North Korea may detonate a nuclear device and carry out a missile test as early as this week, the South’s Defense Ministry said on April 8. The possibility of a ballistic missile launch is “very high” and “may materialize anytime from now,” Foreign Minister Yun Byung Se said today in Seoul.

The North’s decision to restart production of weapons-grade plutonium is credit-negative for South Korea as it has increased “the chance of a serious military clash,” Moody’s Investors Service analysts David Erickson and Thomas Byrne wrote in a report on April 8. Now is ‘not a good time’ for South Korea to sell bonds overseas, according to Desmond Soon, a portfolio manager at Western Asset Management Co.

Structured Notes

Overseas banks sold the most structured notes that cut risks associated with their holdings of South Korea’s sovereign dollar debt in more than six months. JPMorgan Chase & Co. and Standard Chartered Plc issued a combined $150 million of the securities in March, according to data compiled by Bloomberg. Issuers of the so-called credit-linked notes transfer risks of the underlying assets to investors.

“We don’t think Korea will default but foreign firms can have different views,” Park Sung Young, a director for sales of fixed-income, currency and commodities at Hyundai Securities Co. in Seoul, said by phone. South Korean institutional investors buy the notes for higher coupons, betting there’s “zero chance” the country will actually face a credit event, he said.

The yield on South Korea’s domestic five-year bonds was little changed today at 2.58 percent, having reached a record-low 2.51 percent on March 28. The Bank of Korea will cut its benchmark interest rate tomorrow by 25 basis points to 2.5 percent, according to 11 of 20 economists surveyed by Bloomberg News. That would be the first reduction since October.

“The central bank may come forward with more aggressive action before investors and consumers lose confidence,” said Lee Jae Hyung, a fixed-income analyst at Tongyang Securities Inc. in Seoul.

Weaker Won

Overseas funds have pulled about $1.9 billion from Korean stocks since the North’s third nuclear test on Feb. 12, helping drive the Kospi Index down 0.8 percent and contributing to the won’s 3.5 percent loss against the dollar. The Kospi’s 3.1 percent drop this year is less than the 3.5 percent decline in the MSCI Emerging Markets Index. The won is 0.9 percent weaker than its average level for the past three years.

The Kospi rose 0.8 percent today and the won advanced 0.3 percent to close at 1,135.97 per dollar in Seoul.

The cost to insure South Korea’s debt against non-payment climbed this week to the highest level since September. Five-year credit default swaps tied to the notes rose 22 basis points in the past month to 85 in New York yesterday and touched 88 on April 8, according to data compiled by Bloomberg. Similar contracts for China, which shares an Aa3 credit rating at Moody’s Investors Service Inc., increased 11 basis points to 72.

‘Aggressive Rhetoric’

“The cause of the big move is North Korea’s aggressive rhetoric,” said Mark Reade, a credit analyst at Credit Agricole CIB in Hong Kong. “Some investors are treating Korean assets with more caution, but I don’t expect investors to abandon the sector. The widening of spreads we have seen will ultimately subside.”

South Korea last sold dollar bonds in April 2009, when it issued $1.5 billion each of 7.125 percent notes due 2019 and 5.75 percent securities maturing next year, according to data compiled by Bloomberg. Indonesia sold a combined $3 billion of 10- and 30-year U.S. currency-denominated notes at record-low borrowing costs this week.

Chinese President Xi Jinping said April 7 that no country should be allowed to instigate regional chaos and United Nations envoy Susan Rice said last week the U.S. is pushing Xi’s government to “do more” to rein in its ally.

“The multilateral approach to resolve the crisis will succeed,” said Singapore-based Soon at Western Asset, which managed $461.9 billion of assets globally as of Dec. 31. “We still think the likelihood of a conflict is low given China today is going to play a critical role. We wouldn’t overreact to the situation.”

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