Local Government Funding Agency boss says 'aspirational' pricing target rendered 'pretty ambitious' by Euro-zone debt crisis

By Gareth Vaughan

The Local Government Funding Agency (LGFA) launch target of issuing debt at a price that's less than 50 basis points above government bonds remains an "aspirational" one, but has been rendered "pretty ambitious" by the ongoing Euro-zone sovereign debt crisis, CEO Phil Combes says.

The LGFA, which held its first bond tender in February, recently passed the NZ$1 billion mark, having now issued NZ$1.055 billion of bonds through six tenders. The LGFA issues bonds to institutional, or professional, investors and on-lends the funds raised to participating local authorities to help meet their funding needs. The idea is that this pooled approach will help local authorities borrow money at lower interest rates.

The LGFA's Statement of Intent notes its performance targets include that its average cost of funds relative to the average cost of funds for New Zealand Government Securities for the periods to June 30, 2012 and June 30, 2013 will be less than 0.50% higher. Then for the year to June 30, 2014 it's aiming for its average cost of funds relative to the average cost of government funds to be less than 0.40% higher.

However, despite being well ahead on its volume target - which had been to raise NZ$1 billion in calendar year 2012, the LGFA is behind on its pricing target. In a recent credit markets report the BNZ suggested on the whole the LGFA's first six months have been a success on many fronts including issuance, borrower demand, investors demand and spread narrowing, but noted LGFA bonds were some way from the goal of trading within 50 basis points of governments bonds given they were 88 basis points over.

Combes said the 50 basis points target was set with a view ahead to an environment that wouldn't be as dominated by the European sovereign debt crisis as things have turned out.

"I would still see that as an aspirational target and one that we're confident we can meet over time. But obviously all spreads relative to sovereign governments are elevated at the moment as a result of what's going on in the credit world," said Combes.

"The Dec 17s (bonds issued by the LGFA that mature in December 2017 and were initially sold at a 6% yield) that were first issued at 113 basis points over New Zealand government bonds were recently trading at around 77. So we've made up 36 (basis) points and have another 27 to go, if you will, to get to that 50 basis point target," said Combes.

Meanwhile, having already reached the year's NZ$1 billion target, he said the LGFA may now issue somewhere between NZ$1.3 billion and NZ$1.5 billion of debt during 2012.

"We're running 30-50% ahead of forecast and we're certainly well pleased with the reception both in terms of volume, but also in terms of pricing. Whilst we've not made that target, the European sovereign debt crisis really rendered that target pretty ambitious but I still think we've made really good progress towards that in basically just six months of tendering," Combes added.

The LGFA is the only other entity in New Zealand to carry credit ratings as strong as the Crown's. International credit rating agencies Standard & Poor's and Fitch Ratings both issued an AA+ long-term local currency rating for the LGFA, long-term foreign currency ratings of AA, and Fitch a short-term foreign and local currency rating, used on the likes of commercial paper debt issues, of F1. The outlook on the long-term ratings is stable. See an explanation of credit ratings here.

Combes told interest.co.nz in February, on the eve of the first LGFA tender, that although both the government and the LGFA carried the same credit ratings, as a first up issue the LGFA wouldn't be able to match pricing obtained by the government's debt manager, the New Zealand Debt Management Office.

The LGFA is 20% owned by the central government, with the remaining 80% initially held by 18 local councils including the Auckland Council, Christchurch City Council, Whangarei District Council, Western Bay of Plenty District Council, Tauranga City Council, Hamilton City Council, Wellington Regional Council, Wellington City Council, and Tasman District Council. Combes said further councils are likely to join shortly.

He also said the sixth bond tender saw the first direct, and successful, bid from an overseas investor, which he declined to name. Previously he said offshore investors have been buying in the secondary market.

"It will need us to scale up a little bit more in my view, have more of a track record, and a bit more (debt) outstanding before I think we'll get more concerted offshore interest," Combes said.

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