RESULTS OF THE SPANISH TREASURY S FUNDING IN 2012

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2 INTRODUCTION In the realm of the government debt markets, the past year has been among the most turbulent in the history of the Euro Zone. In the first few months, a strong deviation was found in the achievement of Spain s Autonomous Communities deficit targets for The situation worsened with the recognition of vulnerabilities within the Spanish financial system and the resulting need to recapitalise a number of Spanish entities. The market reached its highest levels of volatility during the summer, when even the continuity of European Economic and Monetary Union was questioned. Spain has launched an ambitious strategy of fiscal consolidation and structural reforms, implementing a series of costly but necessary measures in the context of an economic downturn and crisis in the Euro Zone. The Government has requested, and has been granted, financing under very favourable conditions to recapitalise the most vulnerable segment of Spain s financial system. It has launched two funds, the Fund for the Financing of Payments to Providers (FFPP) and the Regional Liquidity Fund (FLA), which channel part of the General Government s funding through the sovereign issuer. All of this increases government debt and brings the General Government s Debt/GDP ratio closer to the European average, but it helps to solve two major problems that are slowing down economic recovery: uncertainty about the solvency of the financial system and the financing problems of the Autonomous Communities. The year 2013 will also be challenging for the Spanish Treasury s funding. Its borrowing requirements will be high. Although total gross funding will be lower than in 2012, the Treasury s regular issuance programme will be larger. Moreover, all Euro Zone sovereign issuers have agreed to introduce Collective Action Clauses in new debt instruments of more than one year to maturity, and this change will affect their funding strategies. In these difficult circumstances for Spain and for Europe, the Tesoro Público, like other sovereign issuers around it, must find the balance between predictability as Spain s benchmark issuer and the flexibility to adapt to a volatile market. This paper details the application of these principles in 2012 and the Treasury s programme for

3 RESULTS OF THE SPANISH TREASURY S FUNDING IN 2012 The Spanish Treasury has used the opportunities provided by conditions in the Euro Zone in the first and fourth quarters of 2012, which has allowed it to reduce the issuance rate in the second and third quarters. Market sentiment has favoured medium-term issuance (two to five years), but an effort has been made to continue to issue frequently in longer tenors. The Treasury obtained funding for a total of billion euros Table 1 depicts the results of Tesoro Público s funding in Net funding obtained within the Treasury s regular issuance programme amounted to billion euros, in line with the target of 36.8 billion published in the Funding Strategy document for Outside its regular programme, the Treasury has raised an additional billion euros to cover the financial needs of other administrative units, so the total net financing obtained by the Treasury has reached billion euros. These additional requirements have been met primarily through loans and private placements. First, the State has obtained a loan from the European Stability Mechanism (ESM) worth billion euros, at a cost much lower than what could have been obtained in the capital markets, which it later transferred to the Fund for Orderly Bank Restructuring (FROB). Second, while awaiting the arrival of ESM funds, the Treasury injected 6 billion euros to strengthen FROB s capital. Third, an additional billion euros was issued through private placements to finance the Regional Liquidity Fund (FLA) for 2012, which was supplemented by an additional 5.7 billion euros from the Treasury s cash position. Finally, the Treasury also conducted a private placement for billion euros to the Social Security Reserve Fund. Table 1: The Spanish Treasury s Funding in 2012 Pro Memoria (billion euros, in effective terms) 2011 Strategy Close Strategy Close 2012 Treasury Net Funding Central Government Financing Additional Financing Loan from European Stability Mechanism (ESM) 39.5 Capital Injection to the Fund for Orderly Bank Restructuring (FROB) 6.0 Financing for the Regional Liquidity Fund (FLA) 16.6 (Of which: direct transfer not financed with debt) -5.7 Placement of Debt to the Social Security Reserve Fund 3.3 Gross issuance of bonds and long-term loans Pro Memoria: Gross issuance excluding the ESM loan Net issuance of bonds and long-term loans Pro Memoria: Net issuance excluding the ESM loan 62.7 Redemptions of bonds and long-term loans Change in the outstanding volumen of Letras del Tesoro Change in outstanding Central Government Debt Total volume of Central Government Debt Outstanding at year end Includes Debt in other currencies, Bonos and Obligaciones, assumed debts, the ESM loan and other debts. 2 The January forecast in effective terms, and the December closing in nominal terms. 2

4 The distribution of gross issuance by instrument throughout the year (Table 2) can be broken down as follows: billion euros in auctions of Letras del Tesoro; billion euros in auctions (and one syndication) of Bonos and Obligaciones del Estado; billion euros in private placements (of which 4.5 billion euros were in Letras and billion euros in Bonos and Obligaciones); and the ESM loan for billion euros. Table 2: 2012 Issuance (million euros, in effective terms) DATE REGULAR PROGRAMME LETRAS 3m 6m 12m 18m Private Placements TOTAL LETRAS BONOS Y OBLIGACIONES REGULAR PROGRAMME 3 year 5 year >=10 year Private Placements ESM TOTAL MEDIUM & LONG TERM TOTAL GROSS ISSUANCE January February March April May June July August September October November December TOTAL Despite the difficulties, the Treasury completed this programme successfully. As shown in Figure 1, the average cost of government debt outstanding has fallen when taking into account the very favourable financial conditions of the ESM loan. Figure 2 shows how the average life of outstanding government debt has fallen this year, although the inclusion of the ESM loan, with an average life of 12.5 years, mitigates this fall. Figure 1: Average Cost of Debt Outstanding and Average Cost at Issuance Figure 2: Average Life of Outstanding Central Government Debt % Cost of Debt Outstanding Cost at issuance Including ESM Not including ESM Including ESM Not including ESM Years Including ESM loan Not including ESM loan

5 THE SPANISH TREASURY S FUNDING IN 2013 The Treasury s 2013 funding strategy was designed to address three key challenges: high gross issuance needs given debt maturities and the assumption of some of the regions funding requirements; the European agreement to introduce Collective Action Clauses (CACs) in new Treasury securities with maturities exceeding one year; and market conditions for Euro Zone public debt, which call for a flexible and prudent policy. The General Budgets Law for 2013 foresees Central Government financial needs amounting to billion euros. This number is the sum of an estimated cash deficit of billion euros (consistent with the State's deficit target of 3.8% of GDP for 2013) and an estimated net change in financial assets of billion euros, which includes 23 billion euros to be transferred to the Regional Liquidity Fund (FLA). This figure is to be understood as an upper bound; as has already happened in 2012, FLA s needs are likely to be lower than initially expected. However, prudent debt management requires the Treasury to assume that this maximum will be reached when planning its 2013 issuance. The Central Government s net funding target of 71 billion euros will be achieved through a combination of bonds and long-term loans (59 billion euros) and Treasury bills, of which the balance outstanding at year-end will increase by 12 billion euros. Figure 3: The Treasury s 2013 Maturity Profile (billion euros, in effective terms) Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Letras Bonos Obligaciones Foreign Currency & Other In 2013 redemptions of Bonos and Obligaciones del Estado will be higher than in Specifically (Figure 3), four references will expire in the months of January, April, July and October totalling 60 billion euros, in addition to billion euros in other debts, including medium-term notes denominated in foreign currencies. 4

6 As usual, there will be monthly maturities of Letras del Tesoro. The total volume of redemptions, as always, will depend on the amount of Letras to be issued and redeemed in the same year. Thus, taking into account the estimated net financing needs, bond redemptions and the range of possible Letras redemptions to face throughout the year, the Treasury plans to issue a total of between 215 and 230 billion euros in gross terms, ranging between 7.9% and 13.9% less than the total gross funding of billion euros obtained in Table 3: The Treasury s funding programme for 2013 (billion euros, in effective terms) Central Government net funding requirement (net issuance) 71.0 Central Government cash deficit 38.1 Net change in financial assets 33.0 Of which: Funding for the Regional Liquidity Fund (FLA) 23.0 Gross issuance of bonds and long-term loans Redemptions of bonds and long-term loans Net issuance of bonds and long-term loans Change in outstanding Letras del Tesoro Change in outstanding Central Government Debt Total volume of Central Government Debt at end Includes debt in other currencies, Bonos & Obligaciones, and assumed debts 2 Redemptions of Letras, and therefore also gross issuance, will depend on the Letras issuance strategy in In nominal terms 1. Issuance of Bonos and Obligaciones del Estado The Treasury plans to obtain most of its net funding through Bonos and Obligaciones del Estado. Gross medium- and long-term issuance will amount to around billion euros (7.6% more than in 2012, excluding the ESM loan) so that, having covered the billion euros of bond redemptions, net mediumand long-term funding may reach around 59 billion euros. a. Introduction of Collective Action Clauses The main change in the Euro Zone sovereign debt market will be the introduction of Collective Action Clauses (CACs) in every bond with maturity greater than one year and the first tranche of which has been issued after January 1, Collective action clauses constitute a change in the conditions governing the relationship between the Central Government and its investors; their purpose is to facilitate a consensus majority among investors of each debt instrument. Its introduction in new issues is a binding commitment for all Euro Zone member states. The documentation of debt instruments issued before 2013 will not be altered. 5

7 BOX: Collective Action Clauses (CACs) What are they? What is their purpose? They are rules on how to aggregate representative majorities among the holders of certain bonds. In cases in which changes in the terms of a debt instrument are contemplated, they avoid the need for unanimous approval among all bondholders, and they enable these changes to be binding, avoiding the possibility of a minority blocking the solutions approved by the majority. CACs were first introduced in the debt instruments of a number of developing countries, and they have progressively been adopted in other jurisdictions. The Euro Zone member states have agreed, in line with the recommendations of the G10 and other international institutions, to introduce CACs in their sovereign debt in 2013 in order best to adapt to international best practice. Where are they regulated? In the Spanish case, CACs are regulated in the Annex of the Order ECC/1/2013, of January 2nd, which provides for the creation of State debt in the year 2013 and January 2014 and which contains the normalised collective action clauses. It was published in Spain s State Official Gazette on January 3 rd Which bonds are affected? Collective action clauses will be applicable to all public debt instruments that are issued by the Kingdom of Spain for the first time after January 1, 2013, and that are launched with a residual maturity of over one year. They will therefore apply to all new Bonos and Obligaciones del Estado and all new medium-term notes. Collective action clauses will not apply to Letras del Tesoro. Since their introduction constitutes a change in the conditions governing the relationship between the Central Government and its investors, collective action clauses will not apply to those debt instruments first launched before January 1, Therefore, until July 30, 2041 (the Treasury s latest maturing Obligación del Estado), bonds with and without CACs will coexist in the same market. Which countries will be affected? Will there be differences between countries? The text of these CACs has been agreed by all Euro Zone sovereign governments and the same provisions will apply to all member states. In any case, the Kingdom of Spain s Bonos and Obligaciones will remain governed by Spanish law. What are the implications for sovereign debt? The introduction of collective action clauses does not alter the obligations contained in Sovereign Debt. It facilitates the possibility of binding agreements among bondholders in cases in which a modification of any of the debt s essential conditions is contemplated. Where can one find more information? The EU s Economic and Financial Committee s website contains more information on the content and the application of Collective Action Clauses. It can be accessed via the following link: b. New and old references - new 2-year benchmark As in previous years, the Treasury's regular auctions will combine the issuance of successive tranches of benchmark and off-the-run bonds. Benchmark references are those launched recently and auctioned most frequently until they acquire an outstanding volume that the Treasury deems appropriate; off-the-run references 6

8 are bonds that were first launched years ago, currently enjoy adequate liquidity but are still demanded by investors. As a novelty in 2013, the Treasury will launch a new 2-year benchmark reference maturing in March 2015, which will supplement its usual 3-, 5-, 10-, 15- and 30- year benchmark bonds. Throughout the year new benchmark bonds will be launched when the current benchmarks are considered to have acquired sufficient liquidity. c. Ordinary and special auctions Regular auctions of Bonos and Obligaciones del Estado are those convened and held according to the usual auction schedule announced at the beginning of the year. As a general rule, with a few exceptions to accommodate holidays, these are held the first and third Thursdays of each month. In 2013 the Treasury will have the option of convening special auctions, outside of its regular schedule, to provide liquidity to certain off-the-run bonds in order to improve the functioning of the secondary market. These special auctions will be convened two days before they take place. The Treasury will auction up to four references and only Kingdom of Spain Primary Dealers for Bonos and Obligaciones del Estado will be allowed to participate. The function of a special auction is to provide the required liquidity to ensure the proper functioning of the secondary market, so the size of these auctions will vary according to market conditions and will be much smaller than the typical regular auction. Therefore, the Treasury will not announce a target issuance volume ahead of its special auctions, and the participation of Primary Dealers for Bonos and Obligaciones del Estado will be a right, not an obligation. The combination of regular and special auctions will provide the Treasury with more flexibility to manage its issuance, helping to reduce secondary market volatility around auctions. d. Bank syndications and private placements Although auctions will continue to be the primary means of issuing government debt, it may occasionally be appropriate to use alternative methods, such as bank syndications and private placements. A syndication is an issue in which the Treasury resorts to its Primary Dealers for Bonos and Obligaciones del Estado to sell bonds directly to investors at an agreed price. These operations, usually costlier to the Treasury than regular auctions, provide in return the opportunity to issue a greater volume and with a better distribution among different types of investor. Traditionally syndications have been used for the first tranches of 10-, 15- and 30-year benchmark issues. However, given volatile market conditions, the Treasury can use this mechanism to issue lower-tenor benchmarks and to reopen outstanding Bonos and Obligaciones del Estado. 7

9 A third option is to issue through private placements, in which the Treasury sells a bond directly to an investor without the intermediation of Primary Dealers. These operations can be ideal for debt modalities other than Bonos and Obligaciones del Estado, such as medium-term notes in currencies other than the euro. Private placements of government debt are and will remain rare, and will only be made if the General Secretariat of the Treasury and Financial Policy considers them preferable to any other alternative given market conditions. e. Issuance announcements In 2013 the same basic pattern of issuance announcements will be maintained as in the previous year. For regular auctions of Letras del Tesoro and Bonos and Obligaciones del Estado, bonds to be issued will be announced at 14:00 on the Friday prior to each auction. The announcement of issuance targets for regular auctions of Letras, Bonos and Obligaciones will be published at 14:00 on the Monday prior to each auction. The announcement of each special auction will be published two days before the auction takes place. This announcement will outline the bonds offered and shall not include an issuance target. Announcements of syndications will take place at the time in which each operation is carried out. 2. Issuance of Letras del Tesoro Unlike in previous years, in 2013 the Treasury plans to increase the volume of Treasury bills in circulation by about 12 billion euros so that, along with the 59 billion euros of net medium- and long-term issuance, the target of 71 billion euros is reached. Given these funding requirements and the need for Collective Action Clauses in new issues maturing in more than one year, the Treasury will apply changes to its usual Letras programme. These changes are listed below. a. Elimination of 18-month Letras auctions, new 9-month Letras As from February 2013 auctions for 18-month Letras del Tesoro will be eliminated. Instead, the Treasury will begin issuing 9-month Letras del Tesoro along with the usual issues of 3-, 6- and 12-month Letras. This change is intended better to adapt supply to the usual demand pattern in the short end of the yield curve. In this way, each month a new 12-month bill will be issued, which will be reopened every three months until it matures. c. Changes in the issuance calendar of Letras del Tesoro Replacing 18-month auctions with 9-month auctions makes it advisable to change the combination of bills issued on each auction date. As a general rule, with a few exceptions to avoid holidays, as from February 2013, auctions of 6- and 12-month Letras will be held on the third Tuesday of every month, and 3- and 9-month bills 8

10 will be auctioned on the fourth Tuesday of every month. This helps diversify issuance on each auction date, adapting it to investors normal demand patterns. d. Announcements Announcements of issuance targets for Letras auctions will not change. As a general rule, they will occur at 14:00 on the Monday prior to every auction. 3. Issuance of alternative instruments The Treasury will continue to be financed primarily by issuing Letras, Bonos and Obligaciones. That said, it retains the flexibility to issue alternative instruments to suit investor demand. In the past the Treasury has issued medium-term notes in foreign currencies under English law, Schuldschein loans under German law and government bonds under Spanish law but with features different from the usual. Among the latter there is the possibility of issuing debt whose coupon is linked to an index such as Euribor. The Treasury does not rule out taking advantage of the different opportunities that the market offers to fund part of its programme with ad hoc issues that may help diversify its investor base and achieve reductions in funding costs. 4. A special thanks to Primary Dealers Year after year, the Spanish Treasury has maintained investors confidence thanks in no small measure to the great work performed by its Primary Dealers, in the provision of secondary-market liquidity and in the distribution of Kingdom of Spain Debt. The European financial market owes much to the confidence that these entities have invested in the future of the single currency. The most active Primary Dealers for Bonos and Obligaciones in 2012 have been (in alphabetical order), Banco Bilbao Vizcaya Argentaria SA, Banco Santander SA, Barclays Bank PLC, Citigroup Global Markets Ltd and Goldman Sachs International Bank. The most active Primary Dealers for Letras del Tesoro have been (in alphabetical order) Banco Bilbao Vizcaya Argentaria SA, Banco Santander SA, Citigroup Global Markets Ltd, Crédit Agricole CIB and Credit Suisse. 9

11 5. The Treasury s regular auction schedule in 2013 Bonos & Obligaciones Letras 12&18m Letras a 3&6m January 10/01/ /01/ /01/ /01/2013 Bonos & Obligaciones Letras 6&12m Letras a 3&9m February 07/02/ /02/ /02/ /02/2013 March 07/03/ /03/ /03/ /03/2013 April 04/04/ /04/ /04/ /04/2013 May 09/05/ /05/ /05/ /05/2013 June 06/06/ /06/ /06/ /06/2013 July 04/07/ /07/ /07/ /07/2013 August 07/08/ /08/ /08/ /08/2013 September 05/09/ /09/ /09/ /09/2013 October 03/10/ /10/ /10/ /10/2013 November 07/11/ /11/ /11/ /11/2013 December 05/12/ /12/ /12/ /12/2013 January 09/01/ /01/ /01/ /01/