Last week the bond market was stunned by the unprecedented demand for sovereign paper issued by Qatar. The Middle Eastern nation announced it would issue $9 billion in Eurobonds (in three maturities), more than double what had been originally expected by the market, and well below the total demand for Qatar sovereign paper. According to Reuters, the issue was massively oversubscribed, with over $23 billion in soft orders.
Some were concerned that this massive bond issuance would "reprice" the local bond market and put on hold any new incremental issuance by Qatar's neighbors, most notably Saudi Arabia, which has been very vocal about its own intentions to sell debt in the coming weeks. The Saudis, in light of a ballooning budget deficit resulting from persistently low oil prices, desperately need an outside cash infusion.
We said that these concerns were materially overblown as Qatar was merely the latest example of the scramble for yield in the current "risk on" environment, and if anything, Qatar's sale demonstrated that any attempt by Saudi Arabia to fund its budget needs would be ridiculously easy.
Sure enough, this was confirmed just days later when Bloomberg reported that Saudi Arabia is considering the sale of as much as $15 billion of bonds this year, "encouraged by investor demand for Qatar’s recent issue".
Saudi Arabia is weighing a sale of $10 billion to $15 billion after the end of Ramadan in July, adding no final decision has been made and the discussions are still at a preliminary stage. It would be Saudi Arabia’s first bond sale in international capital markets. We think that absent another global market swoon, the final notional amount issued will be well greater than "only" $15 billion. Related: Crude Bounces Back On Pre-OPEC Meeting Rumors
While Saudi Arabia is still sitting on nearly $600 billion in foreign-exchange reserves, the country has burned through $140 billion in reserves since the end of 2014. And the IMF has warned that the Saudis could eventually run out of cash.
This is not Saudi Arabia's first recent approach to capital markets: in April the kingdom raised a $10 billion loan from a group of banks, its first loan in 25 years. Last year, the Saudis tapped the local bond market for the first time in eight years, raising at least $4 billion.
But this would be the first time Saudi Arabia has issued international bonds. And it will be a whopper.
CNN also quotes John Sfakianakis, a former official in Saudi Arabia's Ministry of Finance who said the sale would likely take place over the next several months. "There is a need to cover the fiscal gap," said Sfakianakis, who is currently director of economic research at the Gulf Research Center in Riyadh, Saudi Arabia. "It's better for this money to come from other sources than reserve assets, because as they get depleted that places a bigger risk over the medium to long-term."
Bloomberg adds that Saudi Arabia has invited banks to arrange the bond sale, claiming that the country expects to issue a “significant” amount.
Saudi Arabia's move is hardly a surprise: the country is merely taking advantage of an unprecedented bond bubble inflated by global central banks, where $9.9 trillion in sovereign paper is now trading with negative yields.
As a result, governments in the six-nation Gulf Cooperation Council, which includes the two-biggest Arab economies in Saudi Arabia and the United Arab Emirates, are turning to public markets to raise funds after a plunge in oil prices led to higher budget deficits. Qatar last week attracted $23 billion in orders for its $9 billion sale, the biggest-ever bond issue from the Middle East. Abu Dhabi raised $5 billion from the sale of five and ten year securities in April.
The debut bond will follow the country’s first loan in at least 15 years as it seeks to fill a budget hole estimated at about $100 billion this year. Saudi Arabia sealed a $10 billion facility in April.
The country also hired HSBC Holdings Plc banker Fahad Al Saif to start a debt management office that will be responsible for the international bond sale. Al Saif joined the Ministry of Finance on an open-ended secondment from HSBC’s Saudi British Bank. Related: Over 20 Oil Majors Sign Up for Mexico’s Most Lucrative Offshore Oil Blocks
The country is undergoing its biggest-ever economic shakeup, led by Deputy Crown Prince Mohammed bin Salman, as it prepares for the post-oil era following the plunge in crude prices that started in 2014. One of the government’s biggest challenges will be navigating the worst economic slowdown since the global financial crisis as authorities cut spending to plug a budget deficit that reached about 15 percent of gross domestic product in 2015.
The biggest irony here is that while Saudi Arabia has been implicitly fighting the Fed (and other central banks), who have generously funded the U.S. shale industry with hundreds of billions in junk bonds over the past decade, the same industry of "high cost producers" that Saudi Arabia is eager to put out of business indefinitely, it is the same Fed that is coming to Saudi's rescue now by stoking demand for any deficit-funding paper Saudi Arabia may and will issue.
The good news for Saudi Arabia is that the new debt funds will be promptly used to address gaping fiscal holes in the Saudi economy: Moody's recently warned of the social impact of policy reforms in Saudi Arabia and other Gulf countries where "governments are under pressure to continue redistributing oil revenues to their populations to avoid economic-related civil unrest."
But what the inevitable record bond issuance out of Saudi Arabia means, is that the deflationary pressure on oil will persist, as the largest crude oil exporter will not need to rationalize oil supply for the foreseeable future by cutting supply to boost prices. Instead, Saudi can simply fund its budget shortfall by appealing to the same bond investors who are keeping shale afloat, while maintaining its strategy of keeping the oil market continuously oversupplied.
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