The Daily Update - Saudi Arabia government bond debut

Today the long awaited Saudi Arabia government bond issuance debuts with crowded roadshows full of yield starved investors eventually seeing the value in the world's 20th largest economy and largest oil exporter. On yesterday's provisional guide prices for the 5, 10 and 30 year tranches related regional bonds such as Qatar and Saudi Electric Company (SECO) rallied; the latter by as much as 4 points. One wonders why the market has chastised themselves of attractive yields from this wealthy region until now. Their bonds' value has long been evidenced with integral quasi-sovereigns like SECO trading over 4 notches cheap with a spread of 295bps over US Treasuries at the long end and on paper just 1 notch below the sovereign.

The Kingdom clearly warrants the interest, with yields typical of a Baa1 rated issue, it is AA-/A1 rated with a Net Foreign Asset position over 170% of GDP and 18% of proven global oil reserves (enough for 70 years at current production rates of around 12m barrels per day). The country has a large and well diversified sovereign wealth fund and a 24% of GDP capex has quickly turned some non-oil domestic industries (e.g mineral mining) into global players. Also their disproportionately large FX reserves, at $616bn, is undeniably sufficient to maintain a dollar peg and support growth as they target a balanced budget by 2020.

With a minimum $10bn issuance and market hype hoping for as much as $20bn  (and yet still expected to be 3-4x oversubscribed) there is still scope for a fuller Saudi curve develop in coming years; good news for the bigger players coming late to this pocket of value who may continue to struggle finding such yields elsewhere. And as dated, and in some ways misrepresentative, labelling get necessarily redefined (for example here a country with $54k GDP per capita in PPP terms as an emerging market) we foresee more larger constrained funds becoming more active in high rated regions with outsized risk adjusted returns such as Saudi. In such a scenario, and with these bonds returning to our fair value estimates, the 10 year bonds have a potential additional return of ~9% and the 30 year bonds as much as 21%. These of course are unlikely in their entirety any time soon but they highlight the value and return opportunities that are typical to our investment process.

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