Philippines launches dollar bond

A real deal from the Philippines as ING Groep opens books for a $200 million five-year transaction.

Pricing of the fixed rate reg S offering will take place later today (Thursday) following a two-day marketed period which began after Asia's close on Tuesday. For both bankers and potential issuers, the deal's reception should provide a useful barometer of investor sentiment following the summer lull, a great deal of negative commentary concerning the Philippines failure to meet its budget deficit targets and a series of phantom transactions from the country.

Demand is believed to have been surprisingly strong in what is being attributed to a manageable issue size, the resilience of the Asian bid and trajectory of current spread levels. Some commentators, for example, are now arguing that spread widening of over 30% since the Republic's last deal in early June has overplayed fears about budget deficit targets, which investors already know from long experience are rarely met because of 'revenue shortfalls at the Bureau of Internal Revenue'.

The market reports that the deal is being marketed to yield around 7.45% to 7.50%, equating to about 451bp to 455bp over Treasuries, based on a five-year Treasury rate of 2.99% at Asia's close yesterday. As news of additional supply began to break, the Philippines outstanding curve widened out about half a point, but from the Republic's point of view the deal makes sense as the government should benefit from a strong rally in Treasuries the previous night. Over the course of Tuesday, five-year Treasuries rallied 1.3 points.

Asian spreads, on the other hand, and particularly those of the Philippines, which are more closely correlated to the wider emerging market universe, traditionally lag Treasury movements. The Philippines 8.875% April 2008 bond (quoted over a five-year Treasury) closed yesterday at 104.44% down from 104.88% the previous night. This equated to a yield of 7.88% or 469bp over Treasuries.

The 8.375% March 2009, meanwhile, closed at 101.5% to yield 8.07% or 414bp over Treasuries. When the Philippines last came to market in early June via JPMorgan, the sovereign re-opened the deal with a $300 million transaction priced at 292bp over Treasuries, some 122bp tighter than where it closed yesterday.

Aside from Latin American contagion fears, the majority of the widening stems from news about the budget deficit, with the government overshooting its full year target of Ps130 billion by Ps3 billion in July. Since then, however, government officials have repeatedly emphasized the government's intention to adhere to fiscal prudence, in particular by reining in spending. Officials also say that even though the target has been breached, the government intends to maintain it at the current level in order to send the message home to the Philippines that the Arroyo administration will prioritize fiscal discipline.

In a recent research report, ING Groep stated that it believes the "government's plan to keep the 2002 fiscal deficit from exceeding the Ps130 billion target by more than 20% is realistic.

"The authorities have a plan," says the report's author Tim Condon. "We consider it credible. We believe that at worst, the deficit slippage will be in line with what Secretary Camacho has already hinted at, a 20% overrun."

And he concludes, "The bottom line: Philippine sovereign dollar bonds offer investors attractive returns for the risk taken even without a narrowing in spreads to their early June levels, which we do not expect. The fiscal situation has deteriorated, but not critically. Expenditure measures are being implemented that we expect will bring the deficit in at or below our forecast of Ps154 billion."

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