by Hassan Jivraj, and Elias Lambrianos
|The Government of Egypt kicked off a roadshow in the UAE for its proposed US dollar-denominated benchmark Eurobond on Tuesday (17 January). The Arab world’s most populous country is seeking to issue a dual-tranche bond carrying five-and 10-year maturities.A recent slowdown in growth, geopolitical risks and the dual threats of social unrest and terrorism were flagged by market participants as potential concerns.
However a USD 12bn three-year funding package agreed with the IMF in November – and a comprehensive economic reform package, announced yesterday, that accompanies it – could mark the start of an economic pick-up.
“There is investor appetite for Egyptian five- and 10-year bonds, although I’m not sure the same investor appetite is there for longer duration,” said Rami Jamal, portfolio manager at Amwal Asset Management in Qatar.
In terms of comparable credits, Jamal suggested that Egypt’s North African neighbours would be a good comparison for the upcoming Eurobond. “If you look at the neighbouring countries, they have similar demographics in that their populations are young with the potential to increase purchasing power and consumer spending, as well as [having] diversified growing economy,” he said.
Jamal said given the relatively high debt to GDP, and unstable geopolitical environment, a five-year yield below 5.75% and a 10-year below 7% would be unattractive.
A Gulf-based investor echoed Jamal’s sentiment, saying a five-year tranche should be priced around 5.8% to 6% and a 10-year tranche around 7% to 7.2%. He noted that Egypt should be priced around Pakistan or slightly lower given its larger debt levels. The UAE-based fixed income investor suggested that a five-year yield of between 5.5% and 5.625% and a 10-year yield between 7.25% and 7.375% would satisfy his portfolio.
The Cairo-based banker conceded that 7% to 7.2% for a 10-year is reasonable and realistic. However, he argued that 5.5% yield for the five-year is a little bit high. ”The government should be comfortable with these kinds of levels. However it also depends on what the exact allocations are for which tranche,” he said.
But a London-based trader argues that Morocco, with its investment grade rating, is no comparable to Egypt, and investors should instead take the country’s outstanding bonds to benchmark the new issues. Egypt’s USD 1bn 5.75% 2020s are currently trading at 101.625/102.125- a z-spread of 376bps/343bps – a mid-price yield of 5%, while its USD 1.5bn 5.875% 2025s are trading at 92.25/93.25- 504bps/488bps z-Spread- with a yield of 7%, said the London-based trader and supported by a Beirut-based trader. Both expect that the planned five-year and 10-year notes will offer c50bps premium over the country’s existing debt. They would price the five-year bonds at 5.5%-5.75% and the 10-year tranche at 7.5%.
The government’s use of proceeds and continuing economic development plan will be important for international investors. “Whether the government will use the funds for reserves, infrastructure spending or debt repayment,” said Rami Jamal in Qatar.
A portfolio manager in the UAE said that “it appears that while they [Egyptians] have the near term targets set out, there is less thought on longer term reform measures on FDI and revenue generation.”
Basket case to bread basket of the Mediterranean?
“The Egyptian economy is expected to grow by 4% during FY16/17, lower than the government’s target of 5.2% and slightly below the 4.5% rate posted in 2015/16,” said Dr. Florence Eid-Oakden, Chief Economist, Arabia Monitor.
“Risks include mounting socioeconomic discontent, fuelled by high inflation and taxes, reduced purchasing power and a global rise in petroleum prices (particularly combined with the phasing out of subsidies),” she said.
On 3 November, the Central Bank of Egypt (CBE) allowed the Egyptian pound to float. Liberalising the currency regime was a major requirement, along with other economic reforms, of the IMF financing.
“Since the currency floatation on 3 November, hard currency is beginning to flow steadily back into the banking system, but foreign direct investment remains far from the pre-revolution highs,” Eid-Oakden added.
Inflation remains a concern for analysts. “Consumer price inflation is very high at around 23% and this is being driven by food prices, health care and transportation costs, all benchmarks that are felt particularly hard by the working and middle class,” said Jack Kennedy, senior MENA analyst at IHS-Markit.
“Any further increase, [leading to] food and medicine shortages are likely to provoke larger protests. The single biggest risk for political stability in Egypt is from prolonged labour strikes over rising costs,” he said.
In addition Egypt’s public debt levels are high. According to Eid-Oakden at Arabia Monitor, Egypt’s total public debt rose to 94.5% of GDP in 2016 from 85% of GDP in 2015. The government aims to reduce this to 94% in 2017.
“One of the aims of the USD 12bn IMF loan is to reduce the public debt-to-GDP ratio by almost ten percentage points by the end of the program’s third and final year. But Egypt has never completed an IMF program, so the jury is still out,” said Eid-Oakden.
The key objectives of the IMF programme, according to yesterday’s announcement, include maintaining the flexible exchange rate regime, which should improve Egypt’s export competitiveness, help revive the tourism industry and attract foreign investment.
In turn the CBE will be able to rebuild international reserves. Monetary policy will focus on containing any inflation that could accompany a free-floating currency, with the aim of bringing it down to mid-single digits over the medium term.
Public debt is to be set on a “declining path” and restoring debt sustainability made a priority, the announcement continues.
Tax revenues are projected to increase by 2.5% of GDP over the programme, largely due to the implementation of the value added tax, while primary expenditures will be reduced by 3.5% owing to reduction of subsidies – particularly for energy – and containing the wage bill. Social protection programmes will be simultaneously implemented.
Friends in dry places
Observers also point to the impact geopolitics could have on investor sentiment, in particular Cairo’s recent strained relations with GCC allies, most notably Saudi Arabia. Most recently, a court in Cairo on Monday (16 January) ruled against Egypt’s transfer of two small islands of Tiran and Sanafir near the Gulf of Aqaba, to Saudi Arabia.
“The size of GCC aid to Egypt since July 2013 exceeded USD 25bn” said Eid-Oakden. “But relations have recently been strained, in particular over Cairo’s less-than-enthusiastic support for Saudi efforts in Syria and Yemen, and the recent scuffle over the return of the Red Sea islands to Saudi Arabia.”
This seems to have some investors worried. “I don’t want to increase my exposure to Egypt whatever the price, even if it is attractive, because of the political situation,” said a London based EM portfolio manager. “It’s complicated, as of now the country receives huge financial support from Saudi Arabia but since the Syrian conflict there has been some divergence.”
Others agree and point to Egypt’s overreliance on external backers. “The country [Egypt] continues to survive on bail-outs/hand-outs. On a standalone basis the country is a basket case,” said a UAE based fixed income investor. “One has to take a view on the continuation of external support to form a view on whether you will ever see your money again,” he added.
However, other observers take a more constructive view, arguing that recent political events are unlikely to completely destroy Egypt’s relations with the Gulf. They explain that it is in the Gulf’s as well as Egypt’s western allies (the US and UK) interests to continue to support Cairo’s finances.
“Despite the recent political events, I think there will be good interest for the Eurobond from the Gulf and US, because Egypt is a key ally of these guys,” said a regional investment banker.
A Cairo based banker agreed. “I wouldn’t put much weight behind what happened with the Islands and other events. Egypt and Saudi relations are strong despite the recent setbacks,” he said.
Media reports, citing investors who attended the roadshow, reported that Egypt could issue sukuk this year. One investor who attended the roadshow in the UAE told Debtwire that “…the possibility of issuing sukuk later in the year was briefly mentioned.”
Whilst some may welcome Egypt’s financing diversification by tapping Islamic investors in the Gulf and Asia, others have warned caution and realism. “If the government is unable to raise the full amount through conventional means [bonds], they could use other channels such as sukuk,” said the Cairo based banker. “However, whilst the government could sell the sukuk politically at home, Egypt’s experience with sukuk particularly in 2013 with the sukuk law and Muslim Brotherhood was quite controversial,” he added.
Last November, Egypt placed a USD 4bn triple-tranche private placement to support the budget deficit and to increase cash reserves. Shortly thereafter, the Central Bank of Egypt (CBE) concluded a USD 2bn one-year repo agreement with a consortium of international banks, using a portion of these bonds as collateral in exchange for foreign exchange reserves.
Egypt was planning to print a second Eurobond, as reported, but plans stalled in an unfriendly issuance environment and some country-specific events that occurred in 3Q15.
Egypt last came to market in 2015 with a USD 1.5bn 5.875% 2025 bond which it priced at 99.070 for a yield of 6%.
Egypt visited UAE on Tuesday (17 January), New York yesterday, and will continue the roadshow in Boston today, Los Angeles tomorrow before concluding in London on Monday.
Egypt is rated B- by S&P Global Ratings, B3 by Moody’s and B by Fitch.