Changing semi-government dynamics

After a period of subdued issuance, Australia’s semi-government sector is, in aggregate, winding up for a higher funding task in the years ahead. Strategists do not predict problems placing bonds, however.

DAVISON The last time the aggregate semi-government task ramped up it coincided with Australian banks growing their liquidity books to meet liquidity-coverage ratio (LCR) requirements. State borrowing needs are growing again, but there is no concomitant LCR need. What happens to supply-and-demand dynamics in the semi-government sector?

WHETTON The semis have tightened a lot relative to government bonds and they are going to be borrowing more, but I don’t think the outlook is bad for them. The fact that bank loan books aren’t growing very much, and therefore the buying dynamic from banks is relatively flat, doesn’t help – but I also don’t think it hinders very much. I have no doubt the semis will find a buyer for their debt. Their cover ratios are all very comfortable.

GOODMAN The impact of the weight of money we have discussed several times applies equally to semis and spread product as it does to US Treasuries. It’s hard to see supply-led widening in the semi sector, especially as the aggregate requirement for high-quality liquid assets in the bank sector is still growing by several billion dollars a year.

DONALDSON We have seen some underperformance in semis. The back end has widened a little and the semis have generally underperformed versus supranational, sovereign and agency (SSA) issuers. Having said this, SSAs have performed phenomenally well.

We had taken the view that the changing semi-government supply patterns would feed into this pricing dynamic, but actually we recently published a piece suggesting that New South Wales Treasury Corporation spreads have already widened enough and are starting to look cheap on a relative basis.

Something I’d highlight here is that appetite in the back end of the curve has been very strong of late. One of the dynamics that seems to be at work is that Australia is in the mix as a hedged investment for the first time in a long time. We have a very steep 10-30 year curve, and if you’re looking at semis or SSAs you are getting paid enough to be in this market even on a hedged basis.

DAVISON Is this specifically Japanese demand, as we have seen for long-dated SSA issuance, or is it broader?

DONALDSON It’s coming from different parts of the world – from all over the world, in fact.

DAVISON The Productivity Commission recently recommended changes to the goods and services tax (GST) regime that would, if implemented, quite significantly change state-budget relativities. Is this another one that will fall into the political too-hard basket, though?

MASTERS Any change is still a long way away, and in the interim the imbalance that has negatively affected Western Australia (WA) in particular will even out naturally to a significant extent. In other words, the lift WA would get from the changes won’t be as significant when they actually happen as it would be if they happened today. I don’t think it’s a big deal.

GOODMAN Politically, it seems like a diabolical option – I just don’t see how anything could get through the Council of Australian Governments. Every state other than WA would lose out, and they all have equal votes.

Again, it’s hard to get too excited about wholesale GST changes and their flow-on effect on semi-government issuance when we’re in this environment of failure of political leadership.