Within hours of the Canadian government’s April 28 announcement that it was launching its first 50-year long bond, sales of the securities reached C$1.5 billion ($1.37 billion), double the C$750 million that the government had set as its target.
The attraction for the government was clear. In an environment in which interest rates remain near record lows, Ottawa was able to lock in cheap debt for an extended period of time; the bonds mature in December 2064.
“The government’s overall strategy has been to lengthen the term of its debt and to lock in at these, what they perceive as, generous rates,” explains Douglas Porter, chief economist with BMO Capital Markets in Toronto.
For investors, the appeal of lending money for such a long period at such a low rate may be harder to understand. Yet demand was so great that the government was able to price the bonds at a level that yielded 2.96 percent, or one basis point less than the yield that day on its benchmark 30-year bonds.
The sale reflects the popularity of liability-driven investment (LDI) strategies, officials and analysts say. According to a spokesperson at the Canadian Department of Finance, institutions buying into the bond issue were asset managers, pension funds and insurance companies seeking long-dated securities that closely match their liabilities to pay benefits many years into the future.
Recent market conditions have served to accentuate the appeal of LDI strategies, says Aubrey Basdeo, head of Canadian fixed income at BlackRock in Toronto. Last year represented a holy grail for pension funds, he explains, with a strong rise in equity values boosting funds’ coffers at the same time that a slight increase in interest rates eased the weight of future liabilities, after discounting.
The result: “Funded status improved significantly, and that potentially caused a large number of plans to think about de-risking,” he says. Fully funded plans interested in liability matching would have a natural need for this type of bond product, Basdeo says. The fact that the government issued the bond through a syndicate rather than an auction demonstrated that the size and terms of the issue reflected investor demand rather than government need, he adds.
The government of Canada joined a growing list of ultra-long bond issuers. Several Canadian provinces — Manitoba, New Brunswick, Nova Scotia, Ontario and Saskatchewan — have already issued 50-year bonds. France and the U.K. have offered similar long bonds. And last month Mexico raised £1 billion ($1.66 billion) with a 100-year bond issue in London.
“The U.K. is slightly more evolved because the pension industry’s mandate is to be at a fully funded status; therefore they are looking at liability-driven implementation,” says Basdeo. “And the philosophy of a liability-driven implementation is to hedge out the interest-rate risk of the liability, and you need fixed-income assets to do that.” The U.K.’s 45-year bond currently trades at a yield of about 3.4 percent.
Joe Oliver, the former Merrill Lynch investment banker who took over as Canada’s finance minister in March, trumpeted the success of the new issue. “In the current environment, it is both advantageous and prudent for our government to lock in additional long-term funding,” he said in a statement.
This exercise appears to be a test run for the government, with the possibility of future issuances. Says a government spokesperson: “There are currently no plans to set up a regular issuance program in the ultralong sector. However, the government may choose to re-open the ultralong bond in the future, subject to the success of this deal and market conditions.”
Given how investors have spoken with their wallets, Ottawa may relish a return to the market.
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