Investors have welcomed the decisiveness of the policy response of financial authorities and sovereign borrowers to the global public health crisis. This response was all the more impressive because it was entirely unrehearsed.
Marcus Svedberg, investment strategist at the Fourth Swedish National Pension Fund, said during a recent OMFIF event on European sovereign debt that a recurrent topic of conversation among his colleagues between March and May 2020 centred on the speed of the policy response to the pandemic. This was in marked contrast to previous upheavals. ‘In Europe and the US, the policy response to the global financial crisis was underwhelming,’ he said. ‘During the recent crisis, it has been overwhelming. In times of stress, reassurance of this kind is absolutely key for investors.’
Others agreed, suggesting that the way in which the policy response was choreographed by finance ministries, central banks and issuers created a symbiosis that generated a high level of investor support for elevated volumes of sovereign debt. ‘Central banks have played a huge role in market stabilisation,’ said Sir Robert Stheeman, chief executive of the UK’s Debt Management Office.
In 2020-21, the UK sold close to £500bn of gilts, more than double the previous record. The success of this programme and of other sovereigns’ issuance should not be attributed entirely to direct central bank support, said Stheeman. ‘It was due more to the stabilising influence of central bank buying in the background, which encouraged real investors – domestic as well as international – to come into the market.’
The stability of the primary market for sovereigns and supranationals was supported throughout the crisis by the coordinated issuance strategies of the leading issuers in this crowded market. ‘It’s impossible to avoid situations in which there is competing supply altogether,’ said Cristina Casalinho, CEO of the Portuguese treasury and debt management office. ‘For example, one day this year we had to bring a big syndicated deal to the market on the same day as Italy. But I’m happy with the formal and informal coordination between issuers.’
Panellists agreed that the prospect of tightening monetary policy in response to rising inflation is beginning to be reflected in some pockets of the bond market. ‘We are starting to see choppier waters in some of the less liquid asset classes,’ said Friedrich Luithlen, head of debt capital markets at DZ BANK. ‘In covered bonds and some of the smaller SSA markets, books are no longer routinely oversubscribed by a factor of three or four. Uncertainty over fiscal deficits, economic growth and central banks’ bond buying programme are all starting to have an effect.’
Sovereign debt managers at the OMFIF meeting believed that their funding programmes are well equipped to withstand the impact of these influences and a normalisation of yield curves for at least two reasons. Casalinho said that the first of these is that for several years sovereign borrowers have successfully been building their defences against less accommodating markets by terming out their debt and cultivating a broad and diverse investor audience.
She said that, in the case of Portugal, the anchor of this investor base is buy-and-hold investors, which have been a notable source of support since the sovereign’s return to investment grade in 2016. But she added that the contribution made by more speculative accounts should not be overlooked by sovereign borrowers. ‘People tend to stigmatise hedge funds, but they play a significant role in liquidity provision,’ she said.
Casalinho added that the economic outlook should be another source of reassurance for sovereign borrowers. ‘We won’t see rates going up unless there is an economic recovery,’ she said. ‘This will allow for a decline in debt to gross domestic product, a reduction in fiscal deficits and therefore a decrease in borrowing needs.’
Others are not so sure. ‘We absolutely have to start worrying about debt,’ said Svedberg. He noted that according to the latest numbers from the Institute of International Finance, global debt has now reached 355% of GDP, which he said is well above the total reached after the 2008 financial crisis. ‘That’s massive, and it means we’ll have to see fiscal consolidation soon,’ said Svedberg. ‘The timing and extent will vary from country to country across Europe, and could be politically difficult.’
Philip Moore is Contributing Editor at OMFIF.
Photo by Peter Macdiarmid/Getty Images.