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Nigeria: Diamond Bank issues USD200m notes at 9.0%

Diamond Bank issues debut USD Eurobond. Yesterday (14 May), Diamond Bank sold USD200m in 5-y unsubordinated unsecured Eurobonds which pay a coupon of 8.75%. The yield at inception was 9.0% (issue price of 99.0), at the top of the high 8-9% guidance initially announced, and the equivalent z-spread over UST around 744 bps. The notes are expected to be rated B by S&P and Fitch. Diamond Bank had planned to place a Eurobond (albeit a Tier-II note) in late June 2013, and even undertook an investor road show, but the issuance was postponed due to the adverse market environment at the time.

• Market conditions are now supportive. Clearly the bank sought to take advantage of a multi-week window of opportunity in global capital markets characterized by further compression in emerging market Eurobond spreads (sovereign EMBI+ spread at 303 bps on 14 May vs a yearly high of 397 bps on 3 Feb) and benign US Treasury rates (5-y at 1.56% on 14 May and a 1.4%-1.8% range YTD). Furthermore, the more resilient NGN in recent weeks (albeit less so in mid-May) and relative stabilization in foreign reserves (USD37.6bn on 13 May), coupled with the CBN’s continued commitment to exchange rate stability, should have in principle also eased foreign investor concerns about the bank’s exposure to FX risk.

• Subdued bid for the 19s. Diamond Bank initially announced that it would attempt to raise USD300-350m from the market, but the final size of the deal (USD200m) suggests that investor demand for the 19s was muted and/or a number of offshore accounts required a more significant yield premium. As such, the supportive external and onshore market environment and the typical appetite for African USD fixed income assets, especially corporate Eurobonds, even combined with the cheap valuations of the 19s, appear to have failed to support the sale this time. While we are still awaiting more details about the size of the order book and the allocation breakdown, we also suspect that the bid from Nigerian financial institutions was moderate, which certainly weighed on the primary market pricing.

• Market perception. The extra yield offered by Diamond Bank may partially reflect the fact that global fixed income investors are not particularly familiar with the name (at least much less than foreign equity investors). Questions will also probably arise on whether the marketing of the notes and the selection of a single book-runner were adequate. More importantly, there is also a perception that the frequency and cumulative scale of Eurobond supply from Nigerian banks is increasing, especially following the very recent Zenith Bank USD500m 5-y deal (at 6.5%) and as Union Bank just announced that it would seek to raise USD750m in the form of a medium-term note programme. In this context, the demand-supply mismatch for Nigerian corporate Eurobonds may incrementally become less pronounced, unlike a few years ago, with the potential to result in a more cautious asset selection process among investors and even gradually force the less robust names to pay a higher premium.

• Diamond Bank 19s versus Nigerian sovereign and corporate Eurobonds. The primary market pricing implies a z-spread differential of 480 bps with the Nigeria 18s, 267 bps with the GTB 18s, 195 bps with the Access Bank 17s and 77 bps with the Fidelity Bank 18s. Overall, it appears that the new Diamond Bank issue was benchmarked against (and a premium to) the Fidelity Bank 18s in deriving the yield guidance of the 19s. In fact, a selected number of investors allegedly lightened up their exposure to the Fidelity Bank 18s ahead of the Diamond Bank Eurobond sale, probably because of the higher expected yield on the new issue.

• Will the bond retrace initial losses? We previously estimated theoretical fair value for the Diamond Bank 19s at 8.25% in the primary market, assuming that the issuer would raise at least USD300m. Besides, we expected the 19s to trade tight to the Fidelity Bank 18s and wide to the Access Bank 17s in terms of spread over UST, which made the initial price guidance look cheap. Yet with a size of USD200m, the Diamond Bank 19s will not be eligible for CEMBI Broad inclusion (the threshold is actually USD300m), and should be less liquid in the secondary market, and as such it is now probably appropriate for the new notes to trade marginally wide to the Fidelity Bank Eurobond. Interestingly, the 19s lost further ground this morning, with their price falling to 98.0 at the time of writing, the equivalent of a yield of 9.3% and spread over UST of 770 bps (104 bps wide to the Fidelity Bank 18s). At such levels, we suspect the Diamond Bank notes should firm up and perhaps retrace some of the initial losses, especially if favourable external risk metrics persist. Additionally, Nigerian financial institutions need to match USD assets and liabilities, while a USD Eurobond also represents a natural hedge against any future NGN weakness. Consequently, we suspect onshore accounts may still get involved at a later stage in the secondary market, with the potential to gradually squeeze the already tightly held notes.

• Snapshot of Diamond Bank. Diamond Bank is considered the largest second tier bank in Nigeria with assets of NGN1.51tr in 2013. By comparison, Access Bank’s assets were estimated at NGN1.83tr in 2013, and this was the lowest level in the first tier group. On the upside, the strong cost of funding and higher than peers yield on assets have kept robust net interest margins above industry average. Meanwhile, the ROE (23.1% in 2013) stands out among Tier–II peers. On the downside, NPLs exceed the average among peers – and may continue to trail it – given the exposure to the retail space, despite an improvement over the years. Additionally, the capital adequacy ratio (17.1% in Q1:14) lags the average among comparable banks and points to the need to raise further Tier-1 capital, which the bank plans to address via a rights issue

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