Marketing Communication
Euro Rates Watch
Group Economics Macro & Financial Markets
DISCLAIMER: This report has not been prepared in accordance with the legal requirements designed to promote the independence of investment research, and that it is not subject to any prohibition on dealing ahead. This report is marketing communication and not investment research and is intended for professional and eligible clients only.
11 January 2016
Dutch long end issuance extravaganza
Tomorrow, the DSTA will reopen the DSL 2033 for an amount of EUR 1 – 1.5bn
Kim Liu
The issuance is part of the DSTA’s objective to lengthen its duration
Senior Rates Strategist
Lengthening of duration is a common theme among euro area issuers in 2016
Tel: +31 20 343 4669
Because of lower liquidity, the large issuance amount and not using swaps, volatility
Kim.liu@nl.abnamro.com
could increase in the run-up and during the Dutch bond auction
The 2016 Dutch borrowing requirement has been revised downwards to EUR 70bn
Gross Dutch bond supply will be the lowest since 2008 and net supply will be negative
The DSL 2033 offers most value in a fly versus the DSL 2025 and DSL 2047
DSTA starts the year with a bang by reopening the DSL 2033 In its first auction of the year, the Dutch State Treasury Agency (DSTA) will reopen its old 20y benchmark bond, the DSL January 2033. The envisaged target size is set between EUR 1 – 1.5bn. For the official press release, see here. Tomorrow’s auction is part of an earmarked amount for long dated issuance. This year, between EUR 2.5 - 5bn of the total funding programme will be issued by reopening long dated off-the-run DSLs. The specific bonds which will be sold are not disclosed and will be published in due time. The reopening of the DSL January 2033 will compete for investor demand as other countries will be active in the longer part of the sovereign market. Tomorrow, the Austrian Treasury will reopen the RAGB 2034 (together with the RAGB 2025) for a total of EUR 1.21bn, while the Belgian Treasury just announced to issue a new BGB 2026 in the near future (probably tomorrow). Furthermore, the Spanish, Italian and German Treasuries will issue in the 10 year and longer part of the curve later in the week. DSTA introduced significant changes to funding policy and risk framework in its outlook The DSTA introduced significant changes to its funding policy and to the way the Dutch State will manage its interest risk exposure for the next 4 years at the official publication of its yearly outlook in December. Under its new risk framework, the DSTA has decided to lengthen the average maturity of its debt portfolio from 4.5 years to 6.4 years (a range will be used of plus and minus 0.25 years) by 2019. By extending the average maturity, the DSTA will lock in longer funding at low additional borrowing costs, at acceptable risks for the government budget.
Insights.abnamro.nl/en
Bloomberg: ABNM
2
Euro Rates Watch - Dutch long end issuance extravaganza - 11 January 2016
Less hedging under current framework The new framework is a formal extension of the amendments made to the current framework in the past few years. Under the original framework, which was developed in 2007, the DSTA swapped almost all outstanding debt back to replicate a constant 7 year centralised benchmark bond. Every new issuance was also swapped back to a constant 7 year maturity. In the last few years, the DSTA already deviated from this policy by not swapping back selected longer dated issuance to the 7 year tenor. This resulted in active positions versus its 7 year benchmark. In the next four years, the DSTA will lengthen its funding profile by issuing longer dated bonds and by not automatically swapping back all new issuances. This new modus operandi will also apply for tomorrow’s auction. Recent decisions could lead to more volatility and cheapening around auctions A possible implication of the new funding and risk policy is more pricing volatility during and in the run-up to auctions. Volatility could increase in the run-up to auctions as liquidity has decreased in both the secondary government bond and in the futures market. This means that the bond could underperform in the run-up to the auction as dealers will need to make room on their balance sheets. The level of volatility during auctions is also dependent on the amount of delta and to which extent the DSTA will decide to deploy swaps. In this retrospect, we observe that the DSTA will be one of the largest issuers per auction in the long end. For example, the German Finanzagentur will target around EUR 1bn in every of the 9 auctions in which the Treasury will sell long dated debt in 2016. For tomorrow’s auction, the DSTA will issue more than this average amount. Furthermore, swaps are meant to adjust interest rate exposure but debt management offices can also use these instruments around auctions to support the market. Since the DSTA has decided to not to use swaps structurally to support the market, it could need to lower its auction price more often than has been the case previously (the DSTA uses an auction technique in which the DMO sets the price at which banks can purchase the bond). After official announcement, 2016 borrowing requirement revised further downwards At its outlook in December, the DSTA announced that the 2016 funding requirement would fall to EUR 78.8bn, which is EUR 13bn less than in 2015. The main cause of the lower borrowing requirement is a lower amount of bond redemptions in 2016. The envisaged funding requirement would be the lowest since 2008. On top of that, in the first week of January 2016, the DSTA revised its borrowing plan further downwards, by EUR 7bn to EUR 70.3bn. This drop was due to windfalls in 2015. Gross bond supply is at pre-crisis levels while net bond supply will turn negative The initial target range for bond issuance (this is the first time the DSTA uses a range) remained unchanged at EUR 25 -30bn. This means that gross bond supply will be almost equal to pre-crisis levels and the lowest since 2008. If we take the mid-level of the announced
Euro Rates Watch - Dutch long end issuance extravaganza - 11 January 2016
range and incorporate EUR 28bn of bond redemptions due in 2016, we calculate that net bond supply can even turn negative. This would mean that the Netherlands is the only country in the euro area which would experience negative net supply in 2016, even without incorporating the Eurosystem PSPP purchases. The last time that this occurred was in 2007. We think that the availability of Dutch bonds and German bonds of all major euro area countries will decline the most because of both decreased bond supply and continued PSPP buying. We note here that as the Dutch State has already lowered its borrowing requirement and kept the bond supply unchanged, the likelihood has increased that the DSTA will aim for the lower end of the bond issuance range. This would put net supply further in negative territory.
Net bond supply could turn negative in 2016 In EUR bn, nominal fixed coupon bonds only
40 30 20
10 0 -10 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
3
Net Bond Supply Source: ABN AMRO Group Economics, DSTA
Amendments to new issue schedule The DSTA has also broken with its tradition to issue every year a new 3 year benchmark as it aims to increase the average duration of the debt portfolio. Instead it plans to issue new 5 and 10 year benchmark bonds. The remaining bond issuance will be raised by the reopening of longer dated off-the-run bonds (see table for full schedule).
Scheduled bond issuance 2016 Bonds
In EUR bn
New 5 year DSL
7.5 – 10
New 10 year DSL
15
Reopenings of longer dated
2.5 - 5
Off-the-run DSLs
Total bond issuance Source: DSTA
25 - 30
4
Euro Rates Watch - Dutch long end issuance extravaganza - 11 January 2016
DSL 2033 offers best value on its own curve The first trading days of January have been held hostage by oil, China and EM currency jitters. As a result, outright yields of Bunds have been supported by general risk-off sentiment. However, sovereign credit spreads and most notably core spreads have been quite resilient. If we look at the DSL 2033, we see some cheapening of the bond in the run-up to the auction. The cheapening has occurred mostly on its own curve and versus its German peers. These recent moves also offer the best opportunities for tomorrow’s auction. In addition, we do not see value versus Austrian, Finnish or other semi core bonds. Compared to its 10 year benchmark, the DSL July 2025, the DSL 2033 is now trading at around 55bps. This is the widest level since the introduction of the 10 year benchmark in March 2015. Compared to its longer equivalent, the DSL 2047, we observe that the DSL 2047 has richened versus the DSL 2033 since December and has stayed relatively expensive. To arbitrage this opportunity, we see most value in a fly of the DSL 2033 vs the DSL 2047 and DSL 2025 at 28bps. Another way to find value is to set up a yield spread versus its German equivalent, the DBR 2031 at 29bps. This trade is exposed to a duration gap, while the spread versus the DBR 2034 mimics the duration of the DSL 2033 better. Here the spread is around 12bps which is also reasonably attractive.
DSL – DBR 10y spread has been resilient
Yield spread of DSL 2033 – 2025 is at widest level ever
In bps
In bps
60
30
50 20
40 30
10
20 10
0 Jul-15 Aug-15 Sep-15 Oct-15 Nov-15 Dec-15
0 Mar-15
Jul-15
Sep-15
Nov-15
Yield spread DSL 2033 - DSL 2025
Yield spread DSL 2025 vs DBR 2025
DSL 2025/2033/2047 fly looks very attractive In bps
DSL 2033 – DBR 2031 spread also looks attractive In bps
35
35
30
30
25
25
20
20
15
15
10
10
5
5
0 Jul-15
May-15
Aug-15
Sep-15
Oct-15
Nov-15
Fly DSL 2033 vs DSL 2047 and 2025 Source: ABN AMRO Group Economics, Bloomberg
Dec-15
0 Jan-15
Apr-15
Jul-15
Oct-15
Yield spread DSL 2033 vs DBR 2031
Jan-16
5
Euro Rates Watch - Dutch long end issuance extravaganza - 11 January 2016
DISCLAIMER ABN AMRO Bank Gustav Mahlerlaan 10 (visiting address) P.O. Box 283 1000 EA Amsterdam The Netherlands This material has been generated and produced by a Fixed Income Strategist (“Strategists”). Strategists prepare and produce trade commentary, trade ideas, and other analysis to support the Fixed Income sales and trading desks. The information in these reports has been obtained or derived from public available sources; ABN AMRO Bank NV makes no representations as to its accuracy or completeness. The analysis of the Strategists is subject to change and subsequent analysis may be inconsistent with information previously provided to you. Strategists are not part of any department conducting ‘Investment Research’ and do not have a direct reporting line to the Head of Fixed Income Trading or the Head of Fixed Income Sales. The view of the Strategists may differ (materially) from the views of the Fixed Income Trading and sales desks or from the view of the Departments conducting ‘Investment Research’ or other divisions This marketing communication has been prepared by ABN AMRO Bank N.V. or an affiliated company (‘ABN AMRO’) and for the purposes of Directive 2004/39/EC has not been prepared in accordance with the legal and regulatory requirements designed to promote the independence of research. As such regulatory restrictions on ABN AMRO dealing in any financial instruments mentioned in this marketing communication at any time before it is distributed to you do not apply. This marketing communication is for your private information only and does not constitute an analysis of all potentially material issues nor does it constitute an offer to buy or sell any investment. Prior to entering into any transaction with ABN AMRO, you should consider the relevance of the information contained herein to your decision given your own investment objectives, experience, financial and operational resources and any other relevant circumstances. Views expressed herein are not intended to be and should not be viewed as advice or as a recommendation. You should take independent advice on issues that are of concern to you. Neither ABN AMRO nor other persons shall be liable for any direct, indirect, special, incidental, consequential, punitive or exemplary damages, including lost profits arising in any way from the information contained in this communication. Any views or opinions expressed herein might conflict with investment research produced by ABN AMRO. ABN AMRO and its affiliated companies may from time to time have long or short positions in, buy or sell (on a principal basi s or otherwise), make markets in the securities or derivatives of, and provide or have provided, investment banking, commercial banking or other services to any company or issuer named herein. Any price(s) or value(s) are provided as of the date or time indicated and no representation is made that any trade can be executed at these prices or values. In addition, ABN AMRO has no obligation to update any information contained herein. This marketing communication is not intended for distribution to retail clients under any circumstances. This presentation is not intended for distribution to, or use by any person or entity in any jurisdiction where such distribution or use would be contrary to local law or regulation. In particular, this presentation must not be distributed to any person in the United States or to or for the account of any “US persons” as defined in Regulation S of the United States Securities Act of 1933, as amended. CONFLICTS OF INTEREST/ DISCLOSURES This report contains the views, opinions and recommendations of ABN AMRO (AA) strategists. Strategists routinely consult with AA sales and trading desk personnel regarding market information including, but not limited to, pricing, spread levels and trading activity of a specific fixed income security or financial instrument, sector or other asset class. AA is a primary dealer for the Dutch state and is a recognized dealer for the German state. To the extent that this report contains trade ideas based on macro views of economic market conditions or relative value, it may differ from the fundamental credit opinions and recommendations contained in credit sector or company research reports and from the views and opinions of other departments of AA and its affiliates. Trading desks may trade, or have traded, as principal on the basis of the research analyst(s) views and reports. In addition, strategists receive compensation based, in part, on the quality and accuracy of their analysis, client feedback, trading desk and firm revenues and competitive factors. As a general matter, AA and/or its affiliates normally make a market and trade as principal in securities discussed in marketing communications. ABN AMRO is authorised by De Nederlandsche Bank and regulated by the Financial Services Authority; regulated by the AFM for the conduct of business in the Netherlands and the Financial Services Authority for the conduct of UK business. Copyright 2016 ABN AMRO. All rights reserved. This communication is for the use of intended recipients only and the contents may not be reproduced, redistributed, or copied in whole or in part for any purpose without ABN AMRO's prior express consent.