Latin American Samurai bond issuers are traditionally cut from the same cloth — they frequent the capital markets across major currencies and have strong credit ratings.
And Japanese investors, known for their conservative strategies, are selective. They seldom entertain Latin American borrowers rated below BBB and value repeat issuers such as fiscally responsible sovereigns or supranational lenders.
Japan’s investors however, may be forced to change their tune.
In January, negative Japanese interest rates, following aggressive quantitative easing by the Bank of Japan (BOJ), lowered yields in the domestic bond market. Yield-hungry Japanese buyers are increasingly turning to international borrowers as a source of investment returns.
Latin American development bank CAF, for example, diversified its funding sources in January, reaching out to Japanese retail investors for its first issuance of so-called water bonds, aimed at funding water-related infrastructure projects, in the uridashi market.The Aa3/AA-/AA- rated borrower raised $103 million-equivalent through the sale of uridashi – foreign currency — bonds.
The uridashi bonds were sold through a four-year 192 million Turkish lira-denominated bond at par to yield 10.73% and a four-year 590 million South African rand-denominated bond to yield 9%. Investors latched onto the deal’s high yield and felt assured by CAF’s strong rating and regular presence in a number of international bond markets.
Investor demand was high enough to warrant CAF following up just two weeks later with a ¥4.5 billion ($40.4 million) 10-year Samurai, says Manuel Valdez, principal executive of international bond issues at CAF.
“We had reverse inquiries after the uridashi from institutional investors in Japan,” Valdez says. “Japanese investors are looking for high credit quality and since then we’ve received proposals for private placements in yen.”
Mexico meanwhile, another regular in the Samurai market, may diversify its 2016 funding with a yen-denominated deal. Jorge Mendoza, deputy director general of debt issuance at Mexico’s ministry of finance says the sovereign hopes to wrap up its 2016 funding requirements in either yen or euros. Mexico would likely target a $1 billion equivalent deal in Samurai bonds.
“We are spending time doing the investor relations work and we are hopeful we could access both markets,” Mendoza says, referring to yen and euros. “We think there will be more re-allocation of flows and feel investors will look at a differentiation of credits and issuers.”
While no yen-denominated deal has been publicized, debt capital markets sources say Mexico is evaluating a four-tranche transaction. The A3/BBB+/BBB+ rated sovereign could print a three-year tranche with an absolute coupon level of 0.4%-to-0.5%, a 0.7% five-year, a 10-year around the 1% area and a 20-year tranche hovering near a 3% coupon level, sources add.
Sovereigns like Mexico and highly-rated supranationals like CAF can tap the Japanese bond market with aplomb. Lower-rated issuers face a tougher time, because costs are typically higher.
After the BOJ introduced negative interest rates, the Yen swap offer rate — the reference rate for Samurai bonds — also dipped, Hiroyuki Kinoshita, head of global fixed income capital markets at SMBC Nikko, says. Borrowers looking at the Samurai market in the first quarter would have had to pay higher spreads to compensate for the negative rates.
In this environment, Japanese investors are more focused on coupon levels and not re-offer spreads, Kinoshita says. “When we had new issues last year, we would discuss the re-offer spread with investors by asking what kind of spreads they targeted,” he says. “Nowadays, we need to discuss target coupons to obtain an idea of where the bonds need to be priced.”
As yen rates dive, spreads widen, driving up the cost of issuance for international borrowers that conduct business in dollars or euros. With expensive currency swaps, Kinoshita says the rising costs of all-in levels in original currencies created a “bottleneck” for international borrowers, limiting the scope for Samurai or pro-bond market issuances.
Investors might reach a point where underlying yields, or risk-free rates, are so low they no longer only think about what the spread over the swap rate is. Investors with fixed obligations cannot always accept yields below a certain level.
“You may offer a spread that looks better than what an issuer offered in the past, but the coupon is so low, investors can’t consider investing,” Arthur Rubin, head of debt capital markets for Latin America at SMBC Nikko says. “Spreads then widen, not because there is anything wrong with the credit, but because of this technical factor.”
Nonetheless, the yen market remains open to Latin American credits, Kinoshita says. Investors would entertain longer-dated deals to build a yield curve. CAF’s Valdez says Japanese buyers are stretching to 10-to-15-year transactions, particularly institutional investors such as insurance companies.
“For us, this is useful should we decide to extend the duration of issuances,” Valdez says.
Mexican development bank Nacional Financiera is another candidate for Japanese investors. The bank sold a five-year $50 million private placement in the Japanese market last year through its London branch, which is where it handles its Certificates of Deposit program. Pedro Guerra Menéndez, treasurer at Nacional Financiera says the bank could follow with another public or private issuance in yen this year.
The Central American Bank for Economic Integration (Cabei), a supranational lender that last tapped the Samurai market in December 2015, remains another key Latin American credit to Japanese investors. The A1/A/A rated bank sold a 0.66% ¥5.5 billion 2020 note and a 0.96% ¥4.5 billion 2025 Samurai and may re-visit the market again this year, Ricardo Rico, head of capital and financial markets at Cabei, says.
“It all depends on how the cross-currency swap moves, not only with interest rates, but also with FX rates,” he says. “For us however, it’s always an important market, there are long-term investors in Japan like insurance companies that like 10-year maturities.”
Insurers flocked to Cabei’s 2025 note, buying almost 90% of the bonds which priced at 45 basis points over yen-swaps, Rico says.
SMBC Nikko’s Rubin says the Samurai market’s “sweet spot” is typically in the five-year range. But if investors can be persuaded to build a yield curve and accept more duration to achieve attractive yields, this could increase interest in longer-dated deals, Rubin adds.
Longer-dated deals are not restricted to just traditional Samurai issuances, but potentially water bonds, pro-bonds or project bonds. But issuers may not always be willing to entertain longer-dated bonds, says Rico.
“While the cross-currency swap improved lately, it’s worsened throughout the year, so it’s not necessarily a very cost-competitive market,” Rico says. “As an issuer, you may not always value longer duration.”
A dearth of issuances has heightened Japanese investors’ demand. Rico says Japan’s investors are on the hunt for strong returns and Cabei may capitalize on this demand and tap the samurai market at the right opportunity, he says.
“They are hungry because of the negative rate environment,” he says. “Whether this can translate into Japanese investors looking at other types of credits remains to be seen. I hope they do.”
A sensible equation
The low yields at home are pushing Japanese investors to broaden their credit profile and explore international opportunities. Appetite for Latin American issuers is growing, says Kinoshita. Investor demand outweighs the supply available to them, so the need to diversify credits is greater.
“Investors are asking us to show them any list of candidates who are potential borrowers in the yen market,” Kinoshita says.
Japanese investors’ sundry costs such as dividend payments or commission sales, that are factored in when purchasing bonds has also improved. Kinoshita says a five-year underlying basis cost was around minus 100 basis points at the beginning of this year, a historic low. It had improved slightly to about minus 90 basis points by late April, he says.
“Generally speaking, we start to see new Samurai issues from May,” Kinoshita says. “Latin American financial institutions and utilities companies, for example, are being discussed.”
Sovereigns like Chile or Peru would prove interesting to Japanese investors, but enticing these highly-rated sovereigns to issue in Japan is challenging.
“Costs when swapping from yen to US dollars is not necessarily going to be attractive given the negative basis,” Rubin says. “Credits like Chile have been able to fund at very aggressive levels in the US dollar market.”
Latin American countries’ budget deficits have widened and external funding needs will increase this year and next year, Rubin says. That makes it pivotal they aggressively target a range of funding markets — and creates a possibility to look at the Japanese markets, providing the price is right.
Mexico may be the one to lead the way. A Samurai bond from the sovereign would help market participants gauge investor attitude in this fiscal year, which started in April, Kinoshita says. The tenors sold will be closely watched. LF