The recovery in oil prices has boosted investor appetite for Saudi Arabian government debt abroad, allowing the kingdom to borrow at negative interest rates for the first time.
The kingdom raised €1.5 billion, equivalent to $1.8 billion, through a bond sale on Wednesday. The yields were minus 0.057% for three-year debt and 0.646% for nine-year, the cheapest borrowing costs it has achieved to date. It was the second time it has issued bonds in euros.
One of the most oil-dependent countries in the world, Saudi Arabia has regularly tapped international bond markets since 2016 to balance its budget amid crude price swings. Its economy contracted 3.9% last year as the coronavirus pandemic hit global energy demand, according to estimates from the International Monetary Fund, leaving it with a budget deficit of 12% of economic output by December.
The government has put forward a plan to more than halve this shortfall by cutting spending this year. Its decision to issue in euros is likely part of this, analysts said.
The eurozone has had a negative policy rate since 2014, which acts as a reference for sovereign and corporate debt, bringing down the cost of borrowing in euros overall. Governments and companies around the world often tap Europe’s bond market to access cheaper funds. China was able to borrow at negative rates for the first time last year in a three-part euro-denominated debt sale.
“It makes sense for them, they diversify their funding base and get a significantly lower cost of funds,” said Zeina Rizk, an executive director and fixed-income portfolio manager at Arqaam Capital in Dubai. Wednesday’s issuance size is surprisingly small, but the order book size showed that demand was still there, she said.
Saudi Arabia’s economy is expected to rebound as oil prices recover. Economists at HSBC are expecting gross domestic product to increase up to 4% in 2021.
Global benchmark Brent crude has soared over 26% so far this year, bringing the price back to pre-pandemic levels. OPEC members and a group of large producers outside the cartel led by Russia have largely maintained the production cuts that were put in place to reduce supply and support prices while the pandemic crushed energy demand. In December, they agreed to a very moderate increase of half a million barrels a day.
In a surprise move, Saudi Arabia said last month that it would further cut its production by one million barrels a day. The adverse winter weather in Texas decreased global crude supply further, as pipelines and equipment on shale oil fields froze, although this has largely recovered in recent days.
“Saudi looks very much in control of the oil price at the moment; they’re obviously sitting on a fair bit of spare capacity,” said Kieran Curtis, an emerging-market fund manager at Aberdeen Standard Investments. He said he expects Saudi Arabia to be able to ramp up output as the global economy recovers and energy demand picks up.
Advisors to the kingdom told The Wall Street Journal that this is currently under consideration, and Saudi Arabia’s output may be increased in the coming months.
“They’re coming into this from a position of strength,” said Mohieddine Kronfol, a portfolio manager at Franklin Templeton with a focus on Middle East bonds. “Financially they’ve dealt with the virus quite well; we’re beginning to see a recovery take hold. They’ve managed to contain the fallout from the oil price” volatility.
He is overweight Saudi bonds, meaning the fund he manages holds more than the benchmark it tracks.
Still, for some investors the yields are too low for them to be interested.
“We don’t think these bonds offer much value because of narrow spreads,” said Joseph Mouawad, an international bond fund manager at Carmignac. But for investors who just invest in euro-denominated bonds, Wednesday’s issuance could make sense, he said.
“You have a lot of mandates and cash that have to be deployed in fixed-income instruments. These euros need a home,” he said. “With most of the European sovereign space in negative territory, safer emerging-market countries look more and more appealing.”
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