September 26, 2012 / 12:26 PM / 5 years ago

ESM set for SSA shopping spree

LONDON, Sept 26 (IFR) - The European Stability Mechanism has the potential to become one of the largest investors in the SSA sector as soon as it comes into force on October 8, according to syndicate officials.

Frequent agency and supranational borrowers will welcome additional buying firepower from an official institution, which would represent a pleasing diversification away from an investor base increasingly dominated by bank treasuries.

Within 15 days of its inauguration, EUR32bn will be injected into the ESM which will immediately need to be invested into AA or higher-rated debt, issued or guaranteed by governments.

“They will have a major role in primary transactions and in the secondary market, especially in Q4 when over 40% of its paid-in capital will have to be invested,” said Ioannis Rallis, vice president, European SSA DCM at JP Morgan.

The handover from the EFSF to the ESM has been orchestrated to allow the new entity some breathing space during its first months.

Its predecessor, the EFSF, will remain active in financing programmes that started before the ESM became operational, and may also engage in new programmes during a transitional period up to the end of June 2013 in order to ensure the ESM’s full fresh lending capacity of EUR500bn.

The EFSF will also temporarily take charge of the EUR100bn committed for the recapitalisation of Spanish banks.

The ESM may, therefore, find itself at a bit of a loose end until the middle of next year, focusing instead on its investment strategy.

Rallis at JP Morgan, who participated in a call between investors and EFSF/ESM officials on Tuesday, said: “These funds will mainly be invested in highly rated, liquid euro-denominated SSA securities, which we expect mainly to be Bunds, OATs and some KfW, EIB bonds.”


Once its capital is fully paid in, the investment arm of the ESM will have a minimum of EUR75bn to be invested in highly-rated assets in the SSA sector.

Its draft investment guidelines state that some of the capital will be invested into short-term, money market assets under one-year, while a second tranche will focus on medium- to long-term debt geared to capital preservation over three years.

There has been no further clarity on whether this means the maximum maturity of assets ESM can invest in is three years. The ESM could not be immediately reached for comment.

This lack of detail means some market participants remain sceptical over the positive impact ESM investments could have, especially in the agency space.

“Until we get a feel for what maturity preferences they will be going for, how quickly they deploy cash on investment, and how quickly they may need to disburse on the lending side, I think it is premature to assess its impact,” said one syndicate official.

“Especially with agency and supranational debt, they will be mindful of the liquidity of these products, so I would have thought a lot ends up in government paper and short-dated T-bills,” he added.

The fact that the ESM is scheduled to be active in capital markets at the same time as its predecessor EFSF has also raised concerns about the possibility of crowding out in the agency and supranational space.

“We may see some near term gain but it is offset by the fact that there will be lot of issuance that will come out of ESM chasing the same orders that EIB and KfW otherwise would be,” concluded the syndicate official.


Paid in capital, defined as loss-absorbing capital only, will be topped up by a further EUR32bn in mid-2013 and a final instalment of EUR16bn in 2014 to reach its full amount of EUR80bn.

As conveyed to investors by the ESM’s managing director in-waiting, Klaus Regling, the new intergovernmental institution’s paid-in capital cannot drop below EUR75bn (15% of the lending capacity of the ESM). In the event that it does, the ESM can make a proposal for a capital call to its Board of Directors made up of representatives from its member states.

“ Simple majority of the Board of Directors is required to agree to call in capital under these circumstances,” Regling told investors.

He added that in the event one ESM member fails to meet the capital call, other ESM members would have to increase their contributions on a pro-rata basis. (Reporting By John Geddie; Editing by Helene Durand, Alex Chambers and Julian Baker)

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