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("I used to think if there was reincarnation, I wanted to come back as the
president or the pope or a .400 baseball hitter. But now I want to come back as
the bond market. You can intimidate everybody." - James Carville)
* * *
Quebec Bonds Show Scottish Separatists Size Matters
By Lukanyo Mnyanda and Rodney Jefferson
Bloomberg News
April 11 2014
As Scotland’s nationalists step up their campaign to leave the U.K., markets
elsewhere suggest independence isn’t popular with bond investors.
Yields on Quebec’s 10-year securities declined after separatists in the
Canadian province lost ground in an April 7 election. The premium Catalonia
pays to borrow compared with the Spanish state fell yesterday to the lowest
since at least 2012 after lawmakers rejected plans for an independence
referendum. Catalans want a vote about two months after Scots decide on their
constitutional future on Sept. 18.
“Bond investors like predictability, security and also they like size, so if
you are part of a bigger country, that’s definitely supportive,” David
Schnautz, a fixed-income strategist at Commerzbank AG in New York, said by
telephone on April 9. “Any back-peddling from a drive toward independence on
the other hand is then obviously bond positive.”
Unlike the Catalans, opinion polls show more Scots want to keep the status quo
than create Europe’s newest sovereign state. Yet enough people are undecided to
make the outcome uncertain, intensifying the debate over a future independent
Scotland’s debt, budget deficit and currency.
The nation of 5.3 million doesn’t have its own bonds, so bankers, economists,
rating companies and politicians have focused on how much it might have to pay
to borrow compared with the U.K.
Estimates for the premium depend on whether a newly independent Scotland could
keep the pound, something Prime Minister David Cameron’s government has ruled
out. Should he not get his way, Scottish First Minister Alex Salmond has
threatened to walk away from Scotland’s share of U.K. national debt, which the
National Institute of Economic and Social Research, or Niesr, estimates at 143
billion pounds ($240 billion).
The U.K. has said it will honor all its borrowing in the event of Scottish
independence. Fitch Ratings said in a report yesterday such a “debt shock”
would delay Britain getting back its top credit score. Fitch, which stripped
Britain of its AAA rating in April last year, said Britain’s debt burden would
surge as the country lost about a tenth of its gross domestic product.
In an interview with Bloomberg in New York a week ago, Salmond said “no sane
person” would take on more debt to avoid a currency union between Scotland and
the rest of the U.K. He told BBC Radio 4’s Today show this morning that “it’s
quite different from what you do once the votes are in and people act in the
interests of both their countries.”
Should Scotland enter a monetary union, Niesr said its cost of borrowing would
be between 72 to 165 basis points more than U.K. 10-year bonds because of its
size. Scotland would need 23 billion pounds in its first year of breaking away
to service its proportion of debt, Niesr said in an April 8 report.
Jefferies International Ltd. in London predicts the interest rate for Scottish
bonds would be about 100 basis points more than U.K. gilts. That’s based on the
2 billion pounds the semi-autonomous government in Edinburgh can borrow in the
market under an existing law giving Scotland more power.
If the nation votes for independence, fails to secure a currency union and then
walks away from its share of U.K. debt, that premium would increase, said David
Owen, chief European economist at Jefferies. In a December report, he put the
extra yield at as high as 500 basis points, or 5 percentage points, a figure
cited by the U.K. government when warning Scots on future costs. That would be
higher than Greece now pays compared with Germany.
“Until all these issues are settled -- and they wouldn’t be settled on day one
and there would be a period of negotiation -- obviously you’d expect the
uncertainty to weigh on investors and that would push up yields,” Owen said in
an interview on April 4. “It would also impact the gilt market.”
Gilts have gained 1.2 percent since Feb. 13, when Chancellor of the Exchequer
George Osborne said Scotland must relinquish the pound if voters back
independence, according to Bloomberg World Bond Index. That compares with a 0.4
percent gain for U.S. Treasuries and German bonds.
British 10-year bonds yielded 2.63 percent today, 110 basis points more than
equivalent German debt.
In Quebec, the governing separatist Parti Quebecois was trounced in an
election, garnering its lowest support in 44 years. The older generation in the
French-speaking province is increasingly jaded by a push to separate from the
rest ofCanada after failing in referendums in 1980 and 1995, while younger
voters haven’t warmed to the cause.
The yield on the province’s 10-year bonds jumped almost 30 basis points to 3.49
percent in the first week of March when Quebec Premier Pauline Marois called
the election for April 7. The bonds yielded 3.33 percent yesterday. The spread
over comparable Canadian government debt has fallen to 92 basis points from
about 100 basis points on March 12.
As for Catalonia, investors have so far dismissed the risk of Spain breaking
up, adding to their holdings of both Spanish and Catalan bonds. The parliament
inMadrid on April 8 refused to endorse the vote on Catalan independence that
the region’s president, Artur Mas, has pledged to stage in November.
Catalonia’s 1 billion euros of 2020 bonds yielded 117 basis points more than
comparable Spanish securities yesterday. That spread was down from about 250
basis points six months ago.
“I look at Scotland and also Quebec because these are potential blueprints for
Catalonia,” said Schnautz at Commerzbank. “At the end of the day they just want
a better deal in terms of the regional financing.”
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