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Sat 21 Nov 2015 10:46 AM

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Big new-issue premium for Bahrain bond is ill omen for Gulf

Signals grow that Gulf borrowers will have to pay a lot more to issue debt in coming months because of low oil prices

Big new-issue premium for Bahrain bond is ill omen for Gulf

A big new-issue premium for Bahrain's $1.5 billion bond sale this week is a signal that Gulf borrowers will have to pay a lot more to issue debt in coming months because of low oil prices and less enthusiastic investors.

When Bahrain last sold a sovereign bond, in September 2014, the 30-year deal attracted an order book of around $6 billion. It - along with other Gulf issuers - needed to pay almost no premium to the secondary-market yields of their previously issued bonds.

But when it returned to the market on Tuesday, it priced five-year bonds at 5.875 percent and a 10-year tranche at 7.000 percent. Its existing March 2020 bonds were trading at 5.11 percent, up from around 3.75 percent when news of its bond issue plan became public at the start of October.

That implied Bahrain had to pay a hefty new-issue premium of about 70 basis points to ensure a successful sale of debt - a measure of how much the market has deteriorated for Gulf borrowers in the past year. The Bahraini offer attracted an order book of only around $2.4 billion.

The pricing was attractive enough to tempt him to buy, said Morten Bugge, chief investment officer at Denmark-based Global Evolution, which manages about $2.5 billion of emerging market debt. But he remains cautious about Bahrain.

"We sold the long-dated Bahrain paper and participated for a smaller part of those proceeds in the new Bahrain, but have generally reduced Bahrain exposure."

Bankers said Bahrain's latest issue faced unusually difficult conditions because of the militant attacks in Paris on Friday, which unsettled markets globally.

The tiny kingdom is widely viewed as financially weaker than its Gulf neighbours, and the bond pricing reflected expectations that Bahrain may soon have its debt downgraded. It is rated BBB-minus by Fitch.

An August 2023 bond from Bahrain is trading 180 bps outside a similarly rated April 2023 dollar bond from Indonesia ; the spread was 49 bps at end-September.

However, to some extent Bahrain is seen as representative of Gulf credits in general; all the Gulf Arab oil exporters are suffering from cheap oil. Bahrain is believed to have the implicit support of Saudi Arabia, which is allied with Manama's Sunni monarchy, but Riyadh's financial ability to aid its allies in the long run has weakened.

While foreign investors have become more wary of Gulf credits in an era of low oil prices, Gulf banks - who until early this year gave rock-solid buying support to local bonds - have less money to invest as cheap oil tightens liquidity.

While non-sovereign issuers are continuing to come to market in the Gulf, some are finding the pricing too expensive.

Gulf Investment Corp, based in Kuwait, which can cope relatively easily with cheap oil, planned an issue of at least $500 million but decided to cancel it after finishing investor meetings this month, bankers told Reuters.

Bahrain's five-year credit default swaps, used to insure against a default, have jumped 80 points since the start of 2015 to 324 points - a level last seen in August 2012, after major political instability in the kingdom.

Saudi Arabian CDS have also surged. So far, those of the United Arab Emirates, Qatar and Kuwait have not done so, but the trend suggests they could eventually move too.

One more factor overhanging Gulf debt is the prospect of greater supply, as governments issue bonds to fund budget deficits caused by cheap oil. Saudi Arabia is gearing up to issue bonds overseas, while Kuwait says it may do so.

"The supply risk for the GCC (Gulf Cooperation Council) region will increase with net supply strongly increasing for 2016 as a reflection of deteriorating budget and debt metrics," Bugge said. "So we are hesitant to participate in a number of these new issues and have generally reduced exposure by one-third over the past three to six months."