The country’s approach of terming out the debt owned by its large domestic retail investor base, developing its domestic institutional market at the long-end, and continuing to prove international market access while reducing its dependence has stood it in good stead, says Zoltan Kurali, chief executive of AKK in Budapest. However, the Covid crisis has forced constant reassessment and realignment of its funding activities.
Kurali, who spent seven years at Citi and then 13 years at Deutsche Bank, answered his country’s call to run AKK in September 2019. “I didn’t expect that 2020 would be such a test when I took the job,” he says wryly. “But the experience I had in advising sovereigns across CEE during the great financial crisis and the eurozone crisis was helpful preparation.”
A forecast budget deficit of 1% of GDP at the start of the year, grew to 3% in the early Spring — and has since widened to 7-9% — while the economic lockdown initially led to concerns that retail funding would dry up as investors wouldn’t leave home to queue up to buy bonds as usual in bank branches or state treasury offices.
Since around a quarter of the country’s debt stock is owned by households through the retail bond market, a lengthy Covid lockdown could leave it dependent on the domestic wholesale or international markets. And so while, AKK remains committed to keeping its FX debt below 20% of GDP, it decided to get out ahead of the potential problem and issue a €2bn dual-tranche six and 12 year deal in April, becoming the first non-eurozone sovereign to bring a new syndicated bond after Covid.
“The markets are interlinked so to make sure that all investors are assured, we needed to show we have access to liquidity and size – and once that is done we can take care of the day-to-day business,” says Kurali.
“The really good thing with that transaction was that we got attention from the investors that we wanted to see – continental European asset managers. We reached out to these investors and it certainly helped that I had visited investors in Germany before Covid struck.”
Covid also forced a change in AKK’s long-standing plans to issue its inaugural green bond after working hard last year to put a robust framework in place. It’s original aim was to issue in Asia, either in China or Japan, and target only a relatively small size.
“When Covid hit, it turned out that we had a much more sizeable green expenditure – around €1.1bn in a year and enough that we could target a benchmark-sized euro deal,” explains Kurali. Hungary raised €1.5bn from the 15 year debut. With €500m remaining in AKK’s €4bn international issuance plan for 2020, it turned to the Samurai market in early September, pricing a ¥62.7bn (€498m) issue with three, five, seven and 10 year maturities. The two long term tranches were issued in green format, making Hungary the first foreign sovereign to issue a green bond in the Samurai market.
In the domestic wholesale market, AKK worked to ease the operational shock faced by its primary dealers going into lockdown at the same time as having to cope with one of the worst liquidity crises in recent history. It temporarily relaxed some of its rules for its primary dealer group, widening the maximum bid-offer spreads, for instance.
It also worked in lockstep with the central bank which introduced a new fixed rate collateralised term lending facility, with AKK increasing the frequency of its bond auctions to match the weekly liquidity window. Hungary’s quantitative easing programme also played to AKK’s strategy, efficiently targeting the long-end of the domestic curve and allowing AKK to issue 10 year to 20 year bonds into the bid, and helping raise the average maturity profile from below four years at the start of 2020 to nearly five years by the start of September.
“It’s an efficient and targeted government bond purchase programme, so far just below 1% of GDP but has largely kept long-term yields in check despite the significantly higher issuance,” says Kurali. “The way we approached our increased funding requirement was to get a large portion of funding done first in the FX market, then the central bank measures have supported the domestic institutional market while the retail market has come back on track.”
Indeed, after the worries of March about the retail market, households have returned to buying bonds, buoyed by the guaranteed positive real yields that Hungary offers on new series of popular ‘Plus’ bonds launched last summer.
“Now, 90% of the retail bonds we sell are three to five year maturities instead of the one year bonds we used to sell, and that is a maturity conversion for which we are willing to pay,” says Kurali. “We also reduce our exposure to market and FX risk and create a counterbalance to the institutional market.”
It’s taken a similar approach in the institutional market, using a switch programme to extend maturities, and together the changes mean that its annual refinancing requirement, which was stubbornly around 20% of GDP for years despite a falling debt-to-GDP ratio, will be closer to 10% in coming years.
“It’s a healthier and longer maturity profile and obviously if the global interest rate cycle does turn, then we are ready because our exposure to repricing is much lower,” he notes.
As part of this push towards the long-end of the curve, AKK introduced a new total return index for its medium and long-dated issuance, the HMAX index at the beginning of the year.
“We’re trying to encourage pension funds and other longer duration portfolios to benchmark against HMAX,” he says. “Additionally, you also need an efficient Hungarian forint interest rate swap market that is cleared to make long term bonds more liquid and allow a wider group of investors to be able to manage their risks using cleared swaps. ”