The Islamic Republic of Pakistan returned to the international bond markets for the seventh time in its history on Thursday with a $500 million offering that marked its first new transaction since November 2014.
The B3/B-/B- rated sovereign raised exactly half the amount of money it had been hoping for, having budgeted for $1 billion in offshore bonds this current fiscal year.
The 10-year 144a deal came on yet another difficult day for global capital markets with equity markets falling across the world and the iTraxx Crossover Index (a measure of sub investment grade credit default swaps), about 19bp wider by Europe's close.
Pakistan managed to attract an orderbook that closed just below the $1 billion mark but syndicate bankers said other similarly rated sovereign and quasi-sovereign issuers may struggle to achieve a similar result.
"Pakistan is quite unusual as it has always had very geographically broad-based support spanning Asia, the Middle East, Europe and the US," said one banker. "Not many other countries can tap into that."
However, bankers also noted that while Pakistan and China are forging ever-closer economic links, this has not yet translated into exponentially greater demand for the former's international bond deals, with European and the US institutional investors still leading the way.
Timing of the deal was dictated by the US Federal Reserve's decision to stay its hand on interest rates, which has given frontier market debt a possibly temporary boost. This has prompted a number of other high yield sovereigns including Albania and Ethiopia to ready new deals, as well as Mongolia's Trade & Development Bank, which is on the road with a new 144a deal.
Pricing of the new deal was fixed at 99.99% on a coupon of 8.25% to yield 8.251% or 612.48bp over Treasuries. The sovereign's two 2014 deals provide the main benchmarks.
On Thursday, the country's 7.25% April 2019 bond was yielding 6.072% on a cash price of 103.703% and G-spread of 499.2bp.
Its 8.25% April 2024 bond was yielding 7.249% on a cash price of 106.283% or G-spread of 530.3bp.
There is roughly 6bp on the curve per annum between the sovereign's 2019 and 2024 bonds on a G-spread basis. Syndicate bankers said the curve between the April 2024 and new September 2025 bond is worth a further 12bp to 13bp.
Based on an issue spread of 612.48bp, this suggests the sovereign has, therefore, offered a 69.48bp premium to its outstanding curve.
From Asia, the most direct comparable is probably B+/B1/BB- rated Sri Lanka, which shares the same positive ratings momentum as Pakistan. It has a 6.125% March 2025 bond outstanding, which was trading Thursday on a yield of 6.241% and cash price of 99.153%.
When Pakistan tapped the bond market in 2014 bankers also pointed to Zambia as a good comparable since it had recently raised $1 billion from an 8.5% April 2024 bond. However, a year can be a very long time in the frontier markets debt world and that bond is now yielding 11.21% on a cash price of 85.33%.
Zambia's deteriorating credit metrics have seen it downgraded by Standard & Poor's from B+ to B and its B1 rating placed on negative outlook by Moody's.
Lower liquidity in frontier market debt tends to exacerbate any sell-offs. And in recent months, concerns about global growth and US rate rises have prompted a wave of investor redemptions that have led to just such a sharp sell off.
This was the main reason why Pakistan was only able to attract a $1 billion orderbook this time round compared to the $7 billion it achieved when it raised $2 billion in April 2014.
And for investors the chief consideration remains how likely the Fed is to raise rates this year and what further impact that will have on emerging market and frontier market debt.
Positive ratings momentum?
Investors’ second main consideration surrounds Pakistan's ability to sustain its positive ratings trajectory.
Over the past six months both Moody's and Standard & Poor's have acknowledged economic and fiscal progress. The former upgraded the country from Caa1 to B3 in June, while the latter put Pakistan's B- rating on positive outlook in May.
Yet this is not the first time Pakistan has been on this particular track. Investors that have stayed the course since Pakistan first tapped the international debt markets in 1997 will have experienced an extremely bumpy ride.
For Pakistan has never been able to achieve the same rating or cost of funding it did in 1997 when it was rated B+/B2 and paid 6% for a $150 million five-year deal. In the intervening years it has twice ended up in the CCC ratings category because of a balance of payments crisis.
The first instance was one year after its international bond market debut when a military coup and nuclear testing prompted international sanctions that led to a debt restructuring and SD rating.
During the noughties, the country managed to claw its way back into favour and its rating was upgraded to the B2/B level by 2004. This prompted regular issuance for four consecutive years.
In 2004 it raised $500 million via a five-year bond at 6.75%, followed by $600 million again via a five-year bond in 2005 at 220bp over Libor.
In 2006, it executed a dual tranche issue raising $500 million from a 10-year deal at 7.125% and $300 million from a 30-year at 7.875%.
In 2007 it was back again for $750 million in 10-year money at 6.875%.
This deal marked a new high water mark before a second balance of payments crisis in 2008 saw the country slip back to triple-C rated status and led to a new IMF programme.
In 2014, Pakistan's rating was back at Caa1/B- enabling the country able to raise $1 billion in five-year debt on a coupon of 7.25% and $1 billion in 10-year debt on a coupon of 8.25%. Later that year it also raised $1 billion via a five-year sukuk at a cost of 6.75%.
Including the new bond deal and 2014's sukuk transaction, the sovereign now has $5.05 billion in outstanding bond issues.
If Pakistan were to try and eemulate any one country it would probably be Turkey, which had a similar B1/B+ rating one decade ago but has been able to upgrade its economy to its current crossover status at Baa3/BB+.
The China or India factor?
Local economists have a fairly positive view on recent fiscal progress tempered by two key negatives. In a recent update, Optimus Capital suggests that, from "sitting virtually idle since 2008, the rusty wheels of investment have started to turn slowly with plans for capacity additions in energy and non-export manufacturing."
Analysts note that inflation has now fallen to 1.7%, foreign exchange reserves are at a record high of $18.7 billion and the IMF is forecasting GDP growth of 4.5% in 2015.
And while debt to GDP at 62% is now the highest it has been since 2008, the rating agencies believe debt-servicing costs with fall over the next few years. S&P predicts the ratio will drop from 30.6% in 2015 to about 25.5% in 2019, putting the country back to where it was in 2005.
However, Moody's also recently flagged that Pakistan’s overall institutional effectiveness is hampered by "factious relations between the executive, military and judicial branches."
Optimus Capital also argues that "weak overall governance and slow progress on strategic sales of public sector units" have been masked by a number of positives, which have had nothing to do with the government.
It says these positives include the military's self-driven initiatives to maintain stability, the oil price collapse, which has made imports cheaper and the all-important Chinese lifeline through the China Pakistan Economic Corridor (CPEC).
The CPEC and its $46 billion in proposed projects could provide the kind of game changer that means Pakistan’s history of seesawing balance of payments finally become a thing of the past. However, China’s increasing activity has also increased tensions with Pakistan's neighbour India.
These geo-political tensions are viewed as the second key negative. Moody's believes Pakistan remains "highly susceptible to event risk".
There have been frequent cross-border exchanges of gunfire. As Optimus Capital concludes, "A violent event could push hostilities to the brink of a military conflict."
Bookrunners on the new bond deal were Citi, Deutsche Bank and Standard Chartered.