PFM’s Christian Wall talks to Room151 about the UK Municipal Bond Agency’s (UKMBA) short, medium and long-term future.
Room151: With two bonds trading in the market below PWLB, you could be forgiven for thinking things are heading in the right direction at the UKMBA. Why all the recent trade press interest in the agency’s long-term future?
Christian Wall: Things are heading in the right direction. Both the bonds issued in 2020 trade comfortably below the PWLB certainty rate, proving the UKMBA can deliver savings compared to the PWLB even after costs. One part of the trade press has picked up a reference by the UKMBA’s auditors in the agency’s annual report stating that there is material uncertainty around the UKMBA’s ability to compete with the PWLB.
The ability of the UKMBA to compete with the PWLB has always been the greatest source of material uncertainty concerning the UKMBA. The great irony is that the issue of the first two bonds and their subsequent performance has markedly reduced that uncertainty to the point that for most maturities, for local authorities with the same or a better credit rating than Lancashire, that the UKMBA can “beat the PWLB” is not even in doubt.
Arguably, the UKMBA’s auditors should, in the past, have drawn attention to that uncertainty—and with the focus on the role of auditors and the judgements they are required to make—that they have drawn attention to the issue is not surprising.
Room151: So the auditor, in your view, has simply spelt out a risk that has always been there?
Christian Wall: Yes. It has always been the source of the greatest uncertainty and much has been said and written about it in the past.
Even a cursory glance at the recent trading performance of the UKMBA’s bonds would lead any reasonable person to conclude that at this time the risk is greatly reduced. For example, from 26 April onwards, reported trades for the 40-year bond issued with Lancashire County Council shows the bond has traded at, or below, a spread of 0.7% to Gilts compared to the 0.8% spread to Gilts that the PWLB charges.
For the last three months—I have not looked back further—no reported trade of the 5-year bond has been higher than a 0.52% spread to Gilts.
Pooled bond
Room151: Does the UKMBA need to issue a pooled bond in order to secure its long-term future?
Christian Wall: No, not to secure its future. The combination of the two successful bond issues and the adjustments made to its structure ensure that whatever happens, the future of the UKMBA is not contingent upon a particular bond issue.
A pooled bond issue is highly desirable and a key indicator of success, if not the ultimate indicator of success, but there are other important programmes and initiatives underway, such as ESG bonds—which can be standalone or pooled—that are also extremely important to the future of the UKMBA.
Ill-informed speculation in the trade press concerning the future of the UKMBA and its ability to compete is unhelpful when trying to put together a pooled bond, to put it politely.
Although we are working on pooled deals, we anticipate that it will be one of the standalone bonds that we are discussing with local authorities that will be the first to market, which should end all speculation concerning the future of the UKMBA and its ability to compete with the PWLB.
Ultimately, the next successful issue should remove the last uncertainty that some councils have concerning the UKMBA and ensure that pooled bonds can be delivered to the benefit of all local authorities, particularly those, the majority, that cannot access the markets in their own right.
Room151: PFM has been the managed provider of the UKMBA for about two years. How close are you to achieving the milestones you set out when you took over the running of the agency? And what do you need to achieve over the next few years?
Christian Wall: It is a few months short of two years. We achieved our initial goals in fairly short order: to complete the restructuring of the UKMBA’s offer; to issue a bond and to reduce the cost of capital finance available to local authorities.
Our longer term goal remains unfulfilled, shared with the agency, which is to make the UKMBA the first port of call for those seeking capital finance.
Some of the key products that we need to put in place to deliver this are in train. For example, you will have seen that the UKMBA has partnered with Arlingclose to market commercial paper, which provides an alternative source of short-term finance and which we can use to help tailor complex financing solutions to local authorities; and we are working with a global investment bank to deliver forward starting loans and rate locks that will help local authorities manage the cashflow risks and interest rate risks within their capital programmes.
ESG bonds, which offer better pricing to local authorities and provide recognition of the excellent work they all do, are now available through the UKMBA.
Covid—and the uncertainty caused by the PWLB consultation and rate cut, have slowed progress—but we are confident we will continue to deliver.
Our next goal is to issue more bonds, which are in train, to begin re-building the capital base of the UKMBA and to put it on a firmer financial footing that enables the board of the UKMBA to continue to develop and enhance the services and products it offers.
Arguably the greatest compliment is what transpired with the PWLB: we very much doubt that the PWLB rates would have been cut to the degree they have been had the UKMBA’s two bond issues not occurred. Maybe that is the best indication that PFM and the UKMBA are delivering.
Demand
Room151: Helping to push down the PWLB rate must be satisfying, but are you optimistic about issuer and borrower demand for UKMBA generated paper?
Christian Wall: Yes, on all counts. We are working on standalone bond issues for a number of authorities and are receiving inquiries to participate in the pooled bonds, not least as the spreads on the UKMBA’s existing bonds issued on behalf of Lancashire are very attractive.
Investors want pooled bonds and some have asked repeatedly for them, some are almost desperate for more ESG bonds and investor knowledge of local government and the low credit risk it offers is growing. It is an oft repeated mantra, but it happens to be true, that no local authority has ever defaulted on a loan—the UK government has less of a track record.
Investors are beginning to realise that section 114 notices are not bankruptcy, but do force an authority to take action to prevent future bankruptcy, so are a sign the system of controls is working as it should, and they are also starting to realise that the belief many held that universities will be bailed out by the government and that local authorities will not, could not be further from the truth.
Pricing will improve the more paper the UKMBA issues as investors gain confidence and the liquidity improves—some very significant investors can only purchase bonds when an issuer has several billion in the market—and this will do more than anything to stimulate borrower demand; a virtuous circle.
Savings
Roon151: So, overall, and in light of the recent “unhelpful” press, what’s your message to the sector?
Christian: The UKMBA is there for local authorities and is able to offer loans that are cheaper than the PWLB. Unlike the PWLB, the UKMBA is owned by the sector for the sector, so we have developed products to meet the challenges that local authorities have asked us to solve. It has the support of the Local Government Association and income from the bonds it has already issued, so the idea that the UKMBA will close down is completely wrong.
A thriving UKMBA will both deliver savings and guard against the PWLB increasing its rates and making its terms and conditions more onerous. Market conditions are extremely favourable and now is the time to grasp the opportunity and deliver savings for your council through the UKMBA.
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PFM is a supporter of Room151.
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