Budgets and bond issuance

It's that time of year when governments in Australia and New Zealand release their budgets for the fiscal year ahead. The hot topic this year is how much additional debt is going to be incurred, what this means for funding programs, and in particular bond issuance over at least the next twelve months, and credit-rating implications.

In the case of the latter, both Victoria and the Australian Capital Territory released their budgets last week and Standard & Poor's affirmed the 'AAA' ratings it assigns to both.

For Victoria though, S&P noted that the 'AAA/Stable' rating assigned to the state could be pressured if the state's operating position and balance sheet deteriorated further.

While Victoria's net debt will increase to $16 billion over the next four years, the state treasurer was reported as saying the state would not seek a Commonwealth government guarantee for its bond issues. Treasury Corporation of Victoria, when subsequently announcing its 2009/10 borrowing program of $5.6 billion, up from $4.36 billion this year, said the matter was still under consideration.

With its 'AAA' rating affirmed by S&P and the major Australian banks now moving to non-guaranteed bond issuance in the domestic market, there seems no reason why the state should seek a Commonwealth guarantee. Victoria will certainly have a lower cost of debt in the long run, if it does not seek a guarantee, and it will avoid the pain of withdrawal if it does seek a guarantee.

Moreover, in the short term, it is unlikely that Victoria will pay any more to issue new bonds than will a Commonwealth guaranteed state. In other words, the credit margin applied by the market to new Victorian bonds should be no more than the margin paid by Commonwealth guaranteed states plus the guarantee fee.

This is the precedent being applied to the major banks and the ANZ's non-guaranteed bond issue during the week has already seen this margin reduced.

The only time a Commonwealth government guarantee may be useful is if Victoria wishes to issue bonds offshore. But given that the guarantee is not available for foreign currency denominated bond issues, this is likely to be of limited usefulness.

The Commonwealth budget will be announced this week and ongoing speculation on the size of the deficit has seen estimates of the amount steadily increase. Nevertheless, AOFM will announce its bond issuance program for 2009/10 after the budget is released. The ANZ economics team estimates that the funding requirement for next year could be as much as $100 billion, including maturities, as the deficit goes to 4.8 per cent of GDP.

In the meantime, AOFM sold $600 million of April 2020 CGS on Wednesday at an average yield of just over five per cent. The issue was 3.2 times oversubscribed. On Friday, $700 million of March 2019 CGS were sold at an average yield of 4.96 per cent and was 3.8 times oversubscribed.

The New Zealand government will announce its 2009/10 budget on May 28 but the NZDMO announced last week that it was increasing its 2008/09 debt program to NZ$5.5 billion from NZ$4.5 billion - NZ$4.1 billion had already been issued at the time of the announcement - but noted that the 2009/10 program would be announced with the budget. The NZDMO also advised that it would introduce a new May 2021 bond on Thursday last week.

As it was, NZ$100 million of the bonds were sold at an average yield of 6.20 per cent. The offering was 2.2 times oversubscribed. At the same time, NZ$50 million of April 2013 bonds were sold at an average yield of 4.58 per cent and were two times oversubscribed.

The NZDMO's announcement appeared to coincide with the news that New Zealand's economy had contracted by around one per cent in the March quarter and also coincided with an apparent call from New Zealand Finance Minister, Bill English, for New Zealand's top three government-owned fund managers to reconsider the level of risk in their investment portfolios.

The Accident Compensation Commission, New Zealand Superannuation and Government Superannuation manage NZ$27.4 billion of assets between. They immediately interpreted the call as a request to buy more government bonds and thereby keep down the cost of debt to the government.