SSAs edge closer to posting swaps collateral

(This story previously appeared in International FinancingReview, a Thomson Reuters publication)

By John Geddie and Christopher Whittall

LONDON, Oct 8 (IFR) - As the world's largest public issuersgather behind closed doors at the IMF/World Bank Annual Meetingthis week, a once arcane topic will now figure at the top of theagenda: posting collateral to swap counterparties.

Bankers would pay good money to be flies on the wall forthis conversation. They have persistently badgered their mostimportant clients since the onset of the financial crisis toabandon their treasured one-way credit support annexes (CSAs) -contracts that require banks to post collateral to sovereign,supranational and agency (SSA) issuers when out of the money onswaps, while not receiving collateral when the situation isreversed.

Many of the largest SSAs have refused to budge, with theprospect of millions in collateral flying out of the doorproving a strong disincentive. But after having inched up swapsprices over the past year to compensate for these asymmetriccontracts, dealers are at last signalling a turning point.

"All clients are aware of this issue and there is a realmovement in the direction of more and more issuers signingtwo-way CSAs," said the SSA head at a US bank. "Some are stillin denial and refuse to go down that route, but the number inthat camp is quickly becoming the minority."

One-way CSAs are a hangover from the pre-crisis era of SSAsusing their superior credit quality to demand collateral frombanks without having to reciprocate. These exposures have becomeprohibitively expensive for banks under Basel III, whichrequires funding and credit costs to be priced appropriately.This can add tens of basis points on to quotes for thelong-dated interest rate and cross-currency swaps that SSAs useto manage their liabilities.


Banks have been urging SSA clients to sign two-way CSAs overthe past few years with mixed success. Some, such as KfW and theBank of England, volunteered to post their own bonds ascollateral; others, including the debt offices of Portugal andIreland, capitulated upon facing market lock-out.

But dealers are at last reporting considerable progress asclients come round to the merits of adjusting their collateralagreements to secure better swaps pricing.

"Issuers have woken up and smelt the coffee. They see thesize of the costs banks are passing on - which can be verymeaningful in terms of basis points - and realise this isn'tgoing away," said the head of DCM at a European bank. "Clientsare looking at something that is palatable for them that willallow banks to reduce their charges."

One such example is BNG. The Dutch public agency switched totwo-way CSAs a couple of years ago and banks say the entity isnow lowering the threshold level at which it would postcollateral in an effort to mitigate costs.

"In the past we had different agreements depending on thecounterparty, but now we have two-way CSAs across the board,"said Bart van Dooren, head of funding and investor relations atBNG, declining to comment on individual contracts. "Now, if westart negotiations with a new swap counterparty, with which wedon't have a collateral agreement, then we immediately startdiscussions with two-way CSAs."

Austrian export credit agency OeKB was in discussions withcounterparties on two-way CSAs, but was prompted to implementthese across the board after Standard & Poor's downgradedAustria's credit rating in January this year.

While there are rumours that some of the supranationals maybe warming to the idea, at present only the Nordic InvestmentBank has two-way CSAs in place, and even then the threshold isso high that it has only been activated on a handful ofoccasions over the past five years.

Unfortunately for dealers, the issuers with the biggestswaps programmes - the European Investment Bank and the WorldBank - are stubbornly refusing to sign two-way CSAs.

Bankers bemoan this foot-dragging, claiming it attaches astigma to two-way CSAs and discourages smaller SSAs from moving.Dealers are fast running out of patience with these issuers,while many deliberately bid uncompetitive swaps prices.

"It is about cost, access and concentration risk. Thesethree things will bring the issue to a head in the next six to12 months," said one SSA banker. "At this stage all these largerissuers will get to limits with their counterparties, and thenthe banks will have the issuer between a rock and a hard placeand will be able to increase their charges."

(Reporting By Christopher Whittall and John Geddie, Editing byHelen Bartholomew)

((John.Geddie@thomsonreuters.com)(+44)(0)(20 7542 3486)(ReutersMessaging: john.geddie.thomsonreuters.com@reuters.net))