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February 3, 2011 8:42 pm
When the US reintroduced a 30-year bond five years ago, demand was so great that traders likened the reaction to “being on steroids”.
Now the US Treasury has been asked to consider issuing bonds that will not mature for at least 50 years , and as long as 100 years, putting the “long bond” nickname for its regular 30-year offerings at risk of being a misnomer.
The request, from at least one executive on an advisory committee of banks and other investors active in Treasury trading, is the latest in a series of demands for such ultra-long-dated paper.
A member of the US Treasury Borrowing Advisory Committee estimated that demand for US long-term bonds could reach $2,400bn during the next five years as a sweeping programme of financial and pensions regulation is implemented.
It comes as institutional investors try to make their assets match the long-term liabilities of pensions and annuities they are committed to paying out decades into the future.
The market in ultra-long bonds is growing. Since 2005, the UK has regularly sold 50-year gilts and France has issued similarly long-dated paper.
Companies have joined in. Rabobank, the Dutch mutual, and Norfolk Southern, the US railways operator, sold “century” bonds last year. Goldman Sachs recently sold $1.3bn in 50-year debt .
For companies issuing the debt – and very few have a genuine need for 50-year finance – such bond sales amount to a show of faith in the borrower.
Some deals are to a degree the result of “reverse inquiries”, where investors call banks asking for particular types of debt and bankers find borrowers willing to step up.
The scale of interest depends less on the certainty of getting the original investment back in 100 years than on “duration”, a concept that measures the time until cash flows from interest payments cover the nominal price of the bond.
For pension and annuity providers, the longer the duration, the better.
The average duration on many ultra-long bonds is only slightly higher than on more common 30-year debt, but investors are happy to take what they can.
This explains why Mexico’s 100-year bonds offered a 6.1 per cent coupon, compared with the 7.1 per cent yield available on its 30-year debt.
Ben Bennett, a credit strategist at Legal & General Investments, says: “Actuaries tell us when people are going to die and we know how much the fund needs to pay out. We then have to match those outgoings with bond cash flows, and some of those liabilities are 50 years-plus in the future.
“You can’t cover that with 30-year bonds. Without 50-year debt, that’s a risk we’d have to wear.”
Governments in countries such as the US, whose bonds form globally accepted benchmarks, do not really have the freedom to randomly issue one-off bonds.
The benchmark status of those countries lowers their borrowing costs, but requires them to maintain an active yield curve, that is, bonds regularly issued at different maturities to provide reference prices for other borrowing rates, from corporate debt to individual mortgages.
In practice this means that, before they commit to issuing, they have to be sure demand will be consistent and will not cannibalise the market for their existing debt.
The yield curve gives other borrowers more comfort in pricing their own debt off the benchmark rates, especially for longer-dated bonds, where predictions of growth, inflation and other factors are harder to make with confidence.
“Companies looking to do very long-dated funding will first look to the sterling market before looking to the US,” Chris Tuffey, co-head of European credit capital markets at Credit Suisse, says.
This, he says, is because of the depth of UK investor demand for long-dated assets, which itself is largely due to regulation and pensions accounting as well as the now established market for 50-year gilts.
“Other markets, such as the US, are heading the same way as the UK, but no one is as developed yet. On that basis, demand for ultra-long paper in the US is only going to grow.”
Driving this week’s call for a US ultra-long bond issue is a recognition that the move would enable the US government to expand the investor base of the market in Treasuries, which is heavily weighted towards overseas ownership, and cut borrowing costs over time.
Appetite for 50-year gilts has meant the UK usually pays less to borrow for 50 years than for 30, even though, in theory, investors should demand a higher interest rate to compensate for the greater risk implicit in an extra 20 years.
A Treasury official downplayed the need for a 100-year issue on Wednesday, but the idea of a 40-year or 50-year bond would please pension and insurance funds.
Investors hoping for ultra-long T-bonds will have to wait, however, at least until May, when the TBAC and Treasury next meet.
Only then might they be able to gauge the government’s view.
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