Commonwealth Bank of Australia sold a A$3.5bn (Eu2.85bn/US$3.65bn) five year dual tranche covered bond today (Tuesday) that is the first Australian domestic issue in the asset class. CBA’s group treasurer told The Covered Bond Report that it is the largest ever bank bond sold in Australia and provides the bank with cheaper funding than that available in offshore markets and what would realistically be possible in the domestic unsecured market.

Lyn Cobley

Leads CBA, Citibank, HSBC and Westpac announced the mandate for a domestic covered bond from CBA on Friday, and released an indicative price range of 180bp-190bp over BBSW yesterday (Monday) morning to begin collecting indications of interest. The transaction was formally launched this morning on the basis of revised guidance of 175bp-180bp, with the order books closed at around lunchtime in Sydney.

“It was a fantastic deal,” said Lyn Cobley, treasurer at CBA. “We attracted over A$4.4bn of demand and priced a final deal of A$3.5bn.”

A fixed rate five year issue was sized at $2bn and a floating rate note at $1.5bn, with both tranches priced at 175bp over swaps.

“The level of demand was very strong, making it the largest ever bank bond issue done in Australia,” said Cobley, “and we scaled it back so that we had a significant amount of unsatisfied demand to ensure ongoing liquidity for investors in the transaction.”

Commonwealth Bank building, Sydney

The deal is CBA’s second covered bond in just under two weeks, coming after a Eu1.5bn five year deal that was priced at 100bp over mid-swaps on 4 January. This was the first Australian euro covered bond, after ANZ and Westpac in November tapped the US dollar market with the first Australian covered bond issues.

“Similar to our euro deal, we wanted to ensure that the distribution of the first Aussie covered bond was as broad as possible, including institutional investors, so that we could tap this as an asset class in the future,” said Cobley.

Some syndicate officials away from the leads had said that CBA’s covered bond was coming wide of senior unsecured levels. One banker said that a A$3.5bn deal was “phenomenal”, but that it was repricing Australian banks’ unsecured curves and that his bank had shown CBA a new unsecured issue inside the level of its covered bond.

A syndicate banker close to the deal said that secondary levels for a CBA Australian dollar denominated senior unsecured 2016 issue was in the range of 175bp/165bp over before the issuer’s covered bond deal was announced, but that these levels were somewhat artificial given that traded volumes have been very low since Christmas.

He said that a “sensible” new issue premium of around 25bp-35bp, in line with the tight end of ranges being paid in offshore markets for senior unsecured bank debt, would put a new major bank five year senior unsecured deal at around 200bp-plus, albeit for a modestly sized transaction. The level could be expected to need to be set wider again to reach a $3.5bn deal size, he added.

Cobley said that the domestic covered bond was a very efficient way of achieving a large amount of funding for the bank.

“It is a really valuable trade for us,” she said. “In Australia you get the home advantage, making it somewhat cheaper than the offshore covered bond market and it’s certainly much cheaper than any offshore unsecured funding that we could do.”

She said that the dislocation in funding markets across the world had also had an impact on the Australian domestic market, but that it is important to be pragmatic.

“I think it’s fair to say that if we looked at domestic senior unsecured deals that were done six to 12 months ago, this pricing is somewhat wider,” she said. “However, markets have clearly changed a lot in that time and unfortunately they have changed for the worse.

“At some point, you’ve got to accept that this is the new level.”

She said that once fully swapped costs are taken into account domestic covered bond funding is substantially cheaper than secured and unsecured offshore funding and “certainly cheaper than what we believe to be the realistic level for domestic unsecured funding”.

The syndicate banker close to the deal said that pricing had to take into account a lack of recent Australian denominated domestic senior financial supply, and that the price discovery process was a lengthy one that amounted to “a retesting of pricing in Australia full-stop”.

He said that secondary levels provided some clues, but that it was primarily about finding at what level investors would want to engage.

The initial 180bp-190bp over range was designed to capture as much interest as possible, he added, also suggesting that pricing could have been tighter had the issuer only been concerned about attracting bank balance sheet demand rather than including real money investors from the domestic fund management community.

Cobley emphasised the issuer’s wish to achieve a broad investor distribution and told The Covered Bond Report about the implications this had for pricing.

“As the markets were deteriorating going into the end of last year, we were finding that it was increasingly bank balance sheets who were buying rather than institutional investors,” she said. “From our perspective, we want to see as broad a spread of institutional investors as possible, particularly in an inaugural deal such as this, and so it became clear to us that given the dislocation in the market in Europe there were investors in our own market asking to get some of the benefit of the extra amount that we have had to pay in the European market.

“As a brand new market there is also an uncertainty factor for which investors will end up charging a little bit more,” she added.

Domestic investors bought 80% of the bonds and offshore accounts 20%. Institutional and other investors were allocated 65%, and banks 35%.

“At the end of the day,” said Cobley, “when I look at all the potential issuance opportunities that are available to CBA across the world this domestic covered bond is still remarkably cost-efficient funding for us.”