South Korea's biggest lender Kookmin Bank raised $1 billion from a five-year covered bond issue yesterday morning, after attracting orders worth $6 billion from 250 accounts worldwide.
It was the first ever sale of covered bonds in Asia and Kookmin, a unit of KB Financial Group, was able to price the deal at a lower yield and relative spread than it had indicated during the global marketing process. The deal was organised by joint lead managers Citigroup and HSBC.
In a media conference call yesterday, Kookmin Bank chief executive Chungwon Kang said he was "very pleased with the pricing level", commensurate as it was with recent issues by Korean policy banks and government-guaranteed issues.
The issue pays a semi-annual coupon of 7.25% and was re-offered at 98.68 to yield 7.572% to a maturity date of May 14, 2014. That corresponded to a yield premium of 550bp over the US Treasury 1.875% 2014 benchmark, or 500bp over five-year mid-swaps, which were set at 2.572%. Price talk a few days earlier had suggested a spread range of 525bp-550bp over mid-swaps.
Kang added that the covered bond structure was chosen because the bank "wanted to fund on an independent basis [without state-backing] and was keen to use a long-term funding tool rather than seek an immediate solution".
Bankers familiar with the transaction believe that state-owned Industrial Bank of Korea's (IBK) recent five-year deal provided the best, and ultimately the most commonly agreed reference point, for pricing the Kookmin issue. Yet, even by that measure, the deal arguably looked a little pricey. IBK had been trading at 475bp over mid-swaps; and assuming a new issue premium of up to 50bp if it were to issue again -- necessary in a lenders' market -- Kookmin issued at a tighter yield spread than a quasi-sovereign credit.
But, the issue immediately tightened in the secondary market, trading at 498bp-493bp over the US Treasury yield. It was helped, according to Brayan Lai, credit analyst at French investment bank Calyon, by strong demand for most Asian credits as global fund managers increased their allocations to the region amid a belief it offers surer signs of recovery than other emerging markets. By mid-afternoon in Hong Kong, the bonds were bid at 101.60 or 480bp over the US Treasury.
Standard & Poor's has assigned the covered bonds a preliminary double-A rating, which is three grades above the bank's single-A corporate rating. Moody's Investors Service rates the issue Aa2, also three notches higher.
Holders of the issue have first recourse to the bank itself. They are senior unsecured creditors of Kookmin, ranking pari passu with all other senior unsecured creditors.
The notes are secured by W2 trillion ($1.56 billion) of residential home loans and W2.3 trillion of credit card receivables originated by Kookmin Bank. The assets are ring fenced on the lender's balance sheet, but represent a true sale for legal purposes, so are not available to Kookmin's general creditors. Instead, holders of the bonds have a second recourse to the asset pool, the cash flow of which has to be maintained at one-and-a-half times the interest payments from the bond. The income will be deposited into a sinking fund, so from an investor's perspective, the bond should become safer as it nears maturity.
The higher credit ratings reflect the excess cover of the bond payments provided by the collateral.
The majority of the Reg-S Rule 144A notes were placed in Asia, with 57% allocated to the region, while US and European accounts bought 27% and 16% respectively. Fund managers were the biggest buyers, taking 57% of the issue, private banks took 19%, other banks 15%, and insurance companies and pension funds 7%. The balance was placed with miscellaneous investors.
Lai at Calyon argues that Asian accounts, already very familiar with the Kookmin name, focused on the structure of the transaction, while US and European funds, comfortable with the asset-backed securities arrangement, needed more assurances about the issuer itself.
Korea's Financial Supervisory Service (FSS) indicated in September that domestic banks could issue covered bonds in order to raise capital and cover losses. However, there is no actual covered bond law in place, so the structure has been supported by "transaction legal opinions", according to S&P. FSS officials also accompanied Kookmin on its roadshow, said Kang.
Korean banks' reported a combined 75% fall in net profit in the first quarter of the year compared to the same period in 2008, due to loan write-downs and tighter interest margins. In the fourth quarter 2008, they posted their first aggregate loss in eight years.
In the first quarter, their average net interest margin (NIM) dropped by 47bp to 1.91% , the lowest for a single quarter since 2003, an FSS official said at the end of April. Kookmin's NIM fell by 38bp to 2.70%. And there is unlikely to be any respite as the authorities continue to put pressure on local banks to help the country's smaller companies by keeping lending rates low.
Meanwhile, loan-loss provisioning in the banking sector jumped almost three times to W4.4 trillion in the quarter starting in January 2009.
However, Korea's finance minister Yoon Jeung-hyun said on May 4 that the worst is probably over for Korea's banking system and added that there are sufficient measures in place to help it if there are problems. However, loss provisioning at the country's banks is likely to accelerate into the second quarter of this year, according to the bank stress tests that regulators have conducted.
Further bond issuance by Korean lenders is expected. The success of the Kookmin transaction suggests that others, such as Shinhan, which are reluctant to attach a government guarantee, might follow the same covered bond route. As Kookmin's Kang pointed out, "the deal shows that covered bonds are a viable funding tool for other Asian issuers".