Download Local Bond Markets as a Cornerstone of Development Strategy

Local Bond Markets as a Cornerstone of
Economic Development Strategy
Dr. Nasser Saidi,
Chief Economist, DIFC Authority
24th January, 2010
1
Agenda
Local Bond Markets as a Cornerstone of Economic Development Strategy
DIFC Economic Note # 7 by Nasser Saidi, Fabio Scacciavillani & Aathira Prasad
Introduction
Bond and Sukuk Market Development 2003-09
Importance of Debt Market Development
Policy Recommendations
Role of the DIFC in Debt Market Development
2
Financial Depth Across Regions
•
In the Middle East, capital markets are dominated by bank assets and equities
•
Debt securities make up just 5.6% of the Middle Eastern capital markets
Financial Depth Across Regions
$214.4 trn
100%
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
World
Bank Assets
$83.2 trn
European
Union
$61.5 trn
$21.9 trn
$5.5 trn
North
America
Emerging
Asia
Latin
America
Total Debt Securities
$2.2 trn
Middle
East
Stock Market Capitalization
Source: IMF Global Financial Stability Report, Oct 2009
4
International Bonds Outstanding
Bond financing in MENA is tilted towards sovereign issuers, as opposed to a relatively
more balanced distribution in other regions.
(in USD bn)
All countries
Developed countries
Developing countries
Africa & Middle East
Asia & Pacific
Latin America & Caribbean
Bahrain
Kuwait
Sovereign Corporate
2113.5
2813.7
1598.7
2562.8
477.8
214.0
43.7
35.7
57.2
89.8
206.0
55.5
1.1
-
Financial
Institutions
20186.2
19503.7
512.1
82.3
208.3
97.0
5.1
3.2
Total
25881.0
23665.2
1203.9
161.7
355.3
358.6
6.2
3.2
Oman
-
-
1.0
1.0
Qatar
4.4
5.9
3.3
13.6
-
1.9
7.8
9.7
8.8
14.4
42.5
65.7
Saudi Arabia
United Arab Emirates
Bahrain
3%
Lebanon
14%
Egypt
4%
United Arab
Emirates
40%
Qatar
9%
Kuwait
2%
Morocco
0%
Oman
1%
Saudi
Arabia
7%
Tunisia
2%
South Africa
18%
Source: BIS Quarterly Bulletin, Sep 2009
5
Bond Market Development 2003-09
•
Bond issues have risen dramatically since 2003, but as in the rest of the world, 2008
recorded a dip in the number and size of issues.
•
Total issuance in 2009 shows a significant pick-up in issues post-Ramadan.
50
45
40
35
30
25
20
15
10
5
0
Total amount outstanding: 2003-09
Total number of bond issues:2003-09
number
number USD bn
155
180 40.00
160 35.00
140
74
120
58
100
40
0
BH
2004
KW
70.0
60.0
25.00
50.0
28.2
40 10.00
20 5.00
11
2005
OM
2006
2007
QA
SA
2008
UAE
2009
GCC (RHS)
80.0
30.00
60 15.00
23
90.0
84.4
80 20.00
33
2003
USD bn
40.0
22.5
13.1
0.5
30.0
12.7
20.0
3.7
10.0
0.00
0.0
2003
BH
2004 2005
KW
OM
2006
QA
2007
SA
2008
UAE
Source: Bloomberg, Reuters, DIFC Economics
2009
GCC (RHS)
6
Sovereign Issues Dominate in 2009
Conventional Sovereign Issues formed 72.4% of debt issuance*
Corporate Sukuk,
0.26%
Sovereign Sukuk,
5.81%
BH, 3.4%
KW, 11.6%
OM, 3.5%
Conventional
Corporate, 21.6%
Conventional
Sovereign, 72.4%
QA, 29.9%
UAE, 24.0%
* data as of Nov 22, 2009
Source: Bloomberg, Reuters, DIFC Economics
7
The Emergence of the Sukuk Market
Issuance of Sukuk dampened in 2008 and 2009 compared to 2007
•
Sovereigns and government-related issuers were
Corporate and Sovereign Sukuk Issuance in 2009
USD
mn
the most common Sukuk issuers – for funding
2500
programs amid declining economic activity, fiscal
Sovereign sukuk
deficits and lower commodity prices.
2000
•
Share of US dollar-denominated Sukuk dropped
from 85% in 2002 to 10% of issuance in 2008; 1500
Speculation of GCC currencies de-pegging directly
led to a shift in currency choice
Corporate sukuk
1000
•
•
Malaysian ringgit was the top currency choice in
2009
Among the GCC countries, Bahrain dominated the
number of Sukuk issues in 2009 while Saudi
Arabia raised the maximum value of issues
500
0
BH
SA
Source: IFIS Sukuk Database, DIFC Economics
UAE
8
Comparison of Bond Returns
• The impact of the Lehman tsunami on the markets is clearly evident.
• Emerging market returns are catching up; outperformance of lower-rated, higher-yielding
bonds in 2009
Bond performance: Global vs. Emerging Markets
1 Jan 08 =100
Bond market returns took a hit post- Lehman
140
120
110
130
100
120
90
110
80
100
70
90
60
8/16/2007 04/01/2008 26/05/2008 12/11/2008 08/04/2009 01/09/2009
Merril Lynch High Yield & Emerging Markets Total Return Index
JP Morgan Aggregate Bond Index
80
1-Jan-07
1-Jul-07
1-Jan-08
Middle East
1-Jul-08
GCC
1-Jan-09
Source: Bloomberg, Reuters, HSBC-DIFX indices, DIFC Economics
1-Jul-09
UAE
9
Underdeveloped Debt Markets in MENA
The markets in the MENA region are still underdeveloped:
 Lack of breadth, depth and liquidity,
Creane, Goyal et.al. (2004) underscore
 A small investor base
six broad themes identifying more
 Absence of a clear legal & regulatory
framework
specific drawbacks in:
 Lack of credit rating culture
 Unsatisfactory market transparency
 Lack of benchmarks
 Lack of long maturities
 Lack of a broad spectrum of institutional
investors
 Monetary policy
 Banking sector
 Nonbank financial sector
 Regulation and supervision
 Financial openness
 Institutional environment
 Absence of a derivatives market for
managing interest rate and credit risk.
10
Local Debt Markets: Cornerstone of Development Policy
Potential drivers of MENA Debt Market:
• Finance infrastructure and development projects in the region
• Corporate Debt: Well functioning debt markets will help reduce
dependence on bank finance at a time when the banking sector is in
a process of deleveraging
• Government Debt: Diminish
macroeconomic and financial
vulnerability from energy price fluctuations by providing governments
with an alternative source of funding to smooth out volatile revenues
• Enable monetary policy by providing central banks with a market to
conduct open market operations & control liquidity
• Mortgage Markets: cornerstone of housing finance
• Local currency bond markets are a cornerstone of development
strategy
Why Local Currency Market Development?
Developing debt markets in local currencies would allow to:
•
Deal with currency mismatching & exchange rate risk
•
Absorb volatile capital flows and reduce financial instability
•
Provide institutional investors instruments that offer safe and stable long term
yields in local currency
•
Develop a stable source of capital to fund public and private ventures
•
Provide Central Banks an effective monetary policy tool: open market
operations feasible => help maintain an inflation target without a peg to a major
currency
•
As a by-product, debt market would:
 enhance transparency in pricing and intermediation,
 facilitate constant monitoring of macro-economic expectations,
 ensure disclosure of information and periodic communication regarding
public policies.
12
Role of Central Bank & Ministries
•
Ministry of Finance (MoF) has key role as the developer and executor of the state
budget and sovereign borrower for the country
•
Fiscal authorities have to consider how important projects will be funded; choices on
how to fund projects – domestically, internationally, bond or loan market - will impact
the level of market development.
•
The Central Bank role as monetary authority => operate in the market to inject or
withdraw funds using market mechanisms
•
The Central Bank is the designated fiscal agent of the government => conduct the
sale of securities; may also maintain and operate the securities depository
•
The Central Bank as a regulator of the banking system => involve in the creation of
a liquid yield curve => allow banks to price their assets more accurately
•
The Central Bank could boost the market if banks were required to hold a minimum
percentage of their statutory liquid reserves in government paper
•
Establishment of a repo market could facilitate open market operations and also
facilitate banks / participants to manage their own liquidity flows
13
Policy Recommendations
• Government bond issuance across the maturities spectrum (eg.1, 2, 5, 7, 10 and 30
years) can provide the building blocks for a yield curve. (“market breadth”)
• The issuance must be conducted systematically over a number of years with
appropriate pre-announcement of auction dates, size &characteristics of the issue etc.
• The calendar interval should be conveniently spaced with three objectives in mind:
 creation of a critical mass of tradable paper (“market depth”)
 avoid the drying up of longer dated maturities
 prevent concentrated refinancing activity from straining markets’ absorptive capacity.
• Issuance must be large and liquid enough to be traded actively by a number of
agents; features should maintain consistency across maturities (“market liquidity”)
• Primary market could be activated through an auction mechanism once the
Authorities establish a Primary Dealer system
• To allow for maximum liquidity and participation, bonds and Sukuk can be either listed
on exchanges as well as traded in OTC markets.
14
Role of DIFC in Debt Market Development
• The DIFC has put in place a financial platform incorporating international best
practice and characteristics:
 Legal and regulatory infrastructure embodying international best practice
 Multi-currency Trading platform and Settlement System
 Transparency and disclosure are predominant criteria for issuers, with timely flow
of information
 Sound insolvency and creditor rights regime
 Experienced debt market participants (e.g. GBSA)
• NASDAQ Dubai is a fully integrated electronic regional securities exchange that
operates to international standards and is strategically located in the DIFC.
The Asset Classes traded on NASDAQ Dubai
15
Development of Debt Markets is a Policy Imperative
•
Debt markets required for financing for Infrastructure & development projects
•
Monetary Policy: tool for central banks to conduct monetary policy and control liquidity
•
Fiscal Policy: essential tool for deficit financing & to smooth volatility of revenues
•
Corporate finance: diversify from reliance on bank financing
•
Real estate & housing finance
•
Pension funds & assets for expatriate population
•
GCC bond market attractive to international investors:
•
backed by the region’s energy commodities reserves, accumulated private and public
wealth & political stability.
•
value of the GCC fixed income securities would be underpinned by strong
fundamentals: positive growth prospects, economic diversification, shift of the epicenter
of the world economy
•
Safe haven & hedge against episode of extreme risk aversion.
•
Boost after the launch of a common currency in the Gulf: new international financial
architecture
16
Thank You!
Q&A