Korea invades Europe

Korea takes its curve out to twenty years.

The Republic of Korea returned to the international bond markets for the first time since last September yesterday (October 27) with a twin tranche Eu500 million ($603.3 million) and $500 million global bond offering. The deal represents the first time Korea has tapped the Euro market and also extends the sovereign curve out to the 20-year mark.

The deal tapped into sentiment that previous quasi-sovereigns Kepco, Kexim and KDB have helped established with Euro-denominated bonds that achieved wide placement on the Continent. Thus in spite of current market softness, lead managers, ABN AMRO, Citigroup, Goldman Sachs and UBS, were able to parlay huge investor interest from Europe into a strong order book that enabled the deal to price well inside of revised guidance.

When initial guidance was released at 3pm Asian time on Tuesday, the leads were marketing the 10-year euro tranche at 30bp over mid-swaps, while the 20-year dollar tranche was being pitched at 105bp over 30-year US treasuries. As the book size grew throughout the day, the leads decided to tighten guidance to 25bp to 27bp over mid-swaps for the Euro deal and 97bp to 100bp for the dollar deal.

Final pricing on the Euro tranche came at 99.055% on a coupon of 3.625% to yield of 3.74%. This equated to 36.1bp over Bunds or 25bp over mid-swaps.

With an issue price of 98.631%, the dollar tranche carries a coupon of 5.625% and yield of 5.74%, equating to 95bp over Treasuries.

Overall the deal was five times oversubscribed and allocated to a total of 160 accounts. The books were evenly split, with the Euro tranche accounting for slightly more of the total.

Both tranches generated interest from over 100 accounts. However because of some slippage from the contraction in pricing, each tranche was eventually allocated paper to 80 accounts. About 30 accounts were completely new to the credit.

By geography, the 10-year deal had a split of 85% Europe, 13% Asia and 2% US, while the 20-year had a split of 49% Europe, 19% Asia and 32% US.

In terms of account type, the Euro tranche was purchased primarily by banks, accounting for 53% of the book, while fund managers bought 25%, insurers and pension funds picked up 14%, with central banks taking 7% and 2% going to retail investors. The US tranche was a little more evenly split, with banks buying up 40%, insurers and pension funds 30%, fund managers 25%, hedge funds and retail investors 2% respectively, with the remaining 1% going to central banks.

The distribution statistics reveal how successful the sovereign was at tapping into new investor demand. Ireland, Luxembourg and Finland led the European book followed by Germany, Switzerland and the Netherlands. The UK, which is usually a big buyer of offshore Asian paper, was a surprising seventh in terms of allocations.

On a like-for-like basis the Euro deal priced inside of the Republic's outstanding curve. At time of pricing, Korea's 4.875% October 2014 bond was being quoted at 25bp over mid swaps. Assuming 4bp on the Libor curve, a new ten-year should have priced around the 30bp level.

Unlike their American counterparts, European investors are said to have historically shied away from Korean issuance because of geopolitical risks. In particular, the spectre of conflict with North Korea has had a negative influence on sentiment.

However, the new deal was given a boost when Fitch recently upgraded the sovereign to A+ based on North Korea's intent to eliminate its nuclear arms programme. On September 19, North Korea signed a multi-lateral agreement to cease its nuclear arms programme and accept the nuclear non-proliferation treaty.

Indeed, according to Standard & Poor's and Fitch, geopolitical risk has been South Korea's largest credit hurdle. Both agencies said they believe the six-party talks will, at best, prove inconclusive, but they remain optimistic that the county's fiscal position will remain resilient.

In its most recent research upgrade, S&P said, "Korea's general surplus has been averaging almost 1.7% of GDP over the past five years (including social security and excluding lending to the financial sector and monetary stabilization bonds). The gross general government debt level is projected to stand at 36% of GDP at year-end 2005 (including government guarantees), which is higher than the 31% in 1998, because of the upfront cost of financial sector restructuring since 1998, equivalent of 35% of GDP of 1998."

Despite its tight pricing relative to the outstanding sovereign curve, both tranches of the new deal were trading inside of initial pricing in secondary trading. At the end of the Asian trading day yesterday, the Euro tranche was at a bid offer spread of plus 36bp to 34bp, while the dollar tranche was quoted at 94.5bp to 93bp.