A Kangaroo Bond is an Australia-denominated bond issued by a non-Australian company in the Australian debt market to raise capital from Australian investors. In relation to this funding, these non-native issuers tend to have to pay up or offer attractive coupons to less familiar investors, which results in better relative value.
From a risk and relative value perspective, IAM’s Credit Strategy Team have identified two opportunities that should form part of a balanced portfolio. Adding these two issues will allow investors to achieve upsized returns versus other generic BBB/A comparable bonds in the Australian debt market.
On interest rates, our view is that interest rates have peaked in Australia, and therefore it is worth going long duration. The Australian government bond curve is currently upward sloping. In the event bond markets predict economic conditions and interest rates deteriorate, the long-end of the curve typically flattens. A more exceptional scenario is where bond markets forecast the Australian economy to enter a recession or slowdown, and the Australian yield curve can invert.
In both scenarios, investors with long-dated bond exposures benefit – so LBBW and SANTAN are primed to do well.
- LBBW 4.9 29/06/2027 (Bullet) (Baa2/NR/BBB-) (Moody’s/S&P/Fitch) – Tier 2 Capital
- SANTAN 6.499 23/01/2031 (Bullet) (Baa1/A-/A-) (Moody’s/S&P/Fitch) – Senior Non-Preferred Capital
LBBW (Landesbank Buten-Wuerttemberg)
Fundamentals
LBBW’s NPL ratio was steady in 4Q23 vs. 3Q23, whilst earnings have improved. The German lender’s NPL ratio was 40bps which is extremely low by international standards.
LBBW has a regional corporate banking franchise that benefits from Baden Wuerttemberg’s large economy. The acquisition of Berlin Hyp made LBBW a market leader in commercial real estate (CRE) in Germany. LBBW has no exposure to Central Europe or markets like Ukraine and Russia which have been in the headlines recently.
LBBW’s membership of the Sparkassen-Finanzgruppe and its security system acts as a support layer. Moody’s gives LBBW a one-notch uplift as a result. LBBW’s liquidity profile is sound, supported by a 144% liquidity coverage ratio (LCR) and 111% net stable funding ratio (NSFR). The company has managed its debt maturity profile well and it’s MREL-compliant.
The risks to the credit profile include its concentrated exposure to commercial real estate (CRE) – which is around 20% – and stress in this segment. Notwithstanding this LBBW has adequate provision coverage and exceptional capital to deal with such an event. We see a very low risk of a credit downgrade in this issuer which should also help credit spreads tighten.
Financials*
*Source: Bloomberg. Note the Latest Financials as at FY22. FY23 due to be distribution in March 2024.
Relative Value
LBBW is trading around 200bps discount to the BBB comparable curve. Currently, our view is that this is significantly mispriced. We believe these bonds could outperform and have the ability to trade 100bps or 1% lower in credit spread from here.
*Source: Bloomberg.
Transaction Pricing
SANTAN (Banco Santander)
Fundamentals
Santander’s NPL ratio was steady in 4Q23 vs. 3Q23, though some units, such as US and Mexico, saw upticks.
The Spanish lender’s health gross operating profitability boosted by rate hikes and good cost efficiency should allow it to absorb high loan-loss charges. Capital remains stable and the 2.7% MDA buffer is solid vs peers. Santander has better growth prospects vs.
European peers due to its large presence in LatAm with higher GDP growth rates and margins. The company’s asset quality has been surprisingly resilient to high inflation. Santander also has a strong franchise, with top-three market positions in seven of its 10 main markets. The company has managed its debt maturity profile well and it’s MREL-compliant. The risks to the credit profile include NPLs increasing to unsustainable levels and a weakening in cost/income ratio.
Currently, management has a good grip on its cost base and NPLs have remained steady. We see a very low risk of a credit downgrade in this issuer which should also help credit spreads tighten.
Financials*
*Source: CreditSights. Interim Results as of 3Q23
Relative Value
SANTAN is trading around 50bps discount to the BBB comparable curve. Currently, our view is that this is marginally mispriced. We believe these bonds could outperform and have the ability to trade 50bps or 0.5% lower in credit spread from here.
*Source: Bloomberg.
Transaction Pricing
