A lack of sterling supply from UK banks helped Commonwealth Bank of Australia sell a landmark long-dated sterling benchmark yesterday (Thursday), a £750m (Eu949m) 14 year fixed rate deal priced at the tightest new issue spread seen in the UK market.

Although some foreign covered bond issuers sold sterling covered bonds before the beginning of the crisis, the only significant deal to have been launched since the sterling sector was reopened in autumn 2010 was a short dated National Australia Bank floater launched in January.

However, a UK government Funding for Lending Scheme (FLS), which came into effect on 1 August, offers UK financial institutions an attractive funding alternative, meaning that less supply from domestic issuers is expected in sterling and that is said to have opened the door to foreign issuance. (See article on FLS impact here.)

“The fact that UK banks are enjoying the FLS-way of funding and leaving sterling investors left out in the search for investment opportunities has pushed spreads so tight that we even had the first long end non-UK issuer (post reinvention of the sterling covered market) able to tap the sterling market,” said a syndicate official away from the leads.

CBA’s deal hit screens late morning yesterday, with leads CBA, RBC and RBS going out with price guidance of the Gilts plus 120bp area. When the books soon hit £1.1bn the spread was set at Gilts plus 118bp and orders ultimately totalled £1.4bn, comprising 52 accounts.

Jez Walsh, head of covered bond syndicate at RBS, said that such a transaction had been under consideration for several months, but that the mandate was awarded on Wednesday evening, leaving a short window for execution ahead of a long weekend in the UK.

“Our only slight concern,” he said, “was that if you look at where spreads have come from, the last sterling deal was Clydesdale at Gilts plus 270bp and that has tightened to 147bp-132bp. We are now at the tightest levels seen since Nationwide launched its first sterling benchmark at Gilts plus 150bp in January 2011.

“So it remained to be seen the extent of appetite there would be at these market levels.”

However, the leads were able to build a book of £1.4bn comprising 52 accounts, with demand being almost entirely from the UK (95%).

Comparables included a Barclays 2022 issue at Gilts plus 127bp/122bp, an RBS 2024 at 127bp/122bp and a Nationwide Building Society 2026 at 119bp/104bp. At the short end, NAB’s January 2015 FRN was bid at plus 45bp, compared with Barclays and Nationwide FRNs in the same maturity at 45bp/25bp and 50bp/30bp, respectively.

Walsh said that CBAs level, equivalent to sterling Libor plus 68bp, translated into the low 50s over mid-swaps in euros, which is roughly where a CBA 14 year might be priced in euros today – if such a long dated deal were possible.

“There will be selective opportunities for more sterling issuance from foreign issuers,” he added, “but I don’t think sterling investors want to see a barrage of deals at these levels.”

Sterling covered bond supply (including FRNs) YTD (£11.7bn)

Spreads of sterling UK covered bonds against Gilts

Source: RBS, Bloomberg