NSW announces unprecedented $11 billion bond buy-back

Christopher Joye

Coolabah Capital

Following Premier Dominic Perrottet's sensational announcement in late September that NSW would use the $26 billion that had accumulated in his Debt Retirement Fund to repay an unprecedented $11 billion of NSW debt – a feat never been attempted by any Australian government – there was much speculation as to what this meant in practice. In particular, there were repeated suggestions that NSW might not actually repay any debt with this money, or if they did it would be a lot less than $11 billion. 

The most popular claim was that NSW might simply allow its bonds to mature and not be officially refinanced while leaving the $11 billion in the Debt Retirement Fund to be punted on global stocks, private equity, and illiquid loans/junk bonds. We rejected these assertions, arguing that NSW would do precisely what Perrottet stated: that is, use the $11 billion to buy back and/or repay NSW bonds directly from the Debt Retirement Fund. And late on Friday afternoon the new NSW Treasurer, Matt Kean, delivered with gusto, surprising the market with the following announcement via his debt-issuance and investment agency, TCorp:

Today the NSW Government has advised TCorp it has completed the sale of its remaining 49 per cent interest in WestConnex...and provided the following guidance with respect to the proceeds and debt retirement. As per the NSW Generations Funds Act (2018) net sale proceeds will be deposited into the NSW Generations Fund – Debt Retirement Fund (DRF). Approximately $11bn of debt will be retired over the next two years, including TCorp’s debt maturing on 1 March 2022.  Based on an assessment of both value to the State and prevailing market conditions, the NSW Government via TCorp may retire bonds across the maturity spectrum via reverse enquiry or tender. The primary focus is expected to be placed on shorter dated maturities which reduce the borrowing programme across the forward estimates. In conjunction with the above, proceeds may also be applied to maturities as they come due. 

So NSW is, in fact, actively buying back bonds across the maturity spectrum in the secondary market via reverse inquiry and/or tender, and it may also use this money to repay any upcoming maturities. And TCorp notes this should directly reduce NSW's funding task: "All net proceeds received from the transaction will be used for debt reduction". In this context, TCorp comments that the types of bonds NSW buys back will be determined according to the "value to the State", with this being driven by the impact of the purchases "on the borrowing requirement over the forward estimates pricing". 

In a Q&A published alongside the announcement, TCorp poses the question: "Will you lower your funding program by the maturity proceeds?" A clear response is provided:

It is expected that, all else equal, by managing WestConnex proceeds together with the State’s overall cash balances the funding program will be reduced by $11bn over time.

It is important to note that this $11 billion of early debt repayment needs to be added to the shock news announced on October 25 by NSW Treasurer Matt Kean that he would be rediverting circa $11 billion of current and future NSW taxpayer revenue that was previously being funneled to the Debt Retirement Fund---including all NSW royalties and State-owned corporation dividends---back to the NSW budget to minimise both its deficit and NSW's debt funding requirements. The AFR reported a week ago:

The NSW government will stop borrowing billions of dollars to pay for inflows into its $15 billion financial market investment fund, in a U-turn that will help the state manage debt pressures from the pandemic. NSW Treasury Corp announced the state government had decided to “temporarily suspend” certain contributions to the NSW Generations Fund, because of the economic impact of COVID-19. The decision to stop leveraging up the state government’s balance sheet for the NSW Generations Fund (NGF) follows a series of stories in The Australian Financial Review warning the plan had raised concerns among credit rating agencies, bond investors, Labor and public finance experts. NSW Treasurer Matt Kean said on Sunday, “given the unprecedented impact of COVID, it is appropriate to consider the right policy settings of the NGF going forward and that’s what the government is doing. “The government’s approach to funding the NGF going forward is expected to be set out at the 2021-22 half-yearly review in December, once a final decision is made. Dividends paid to the government from NSW state-owned corporations (SOC) and mining royalties had been forecast to add almost $11 billion to the fund over the four years to 2024-25.

This means that these two announcements alone have spared NSW taxpayers up to $22 billion of current and future debt issuance requirements, which is completely unprecedented in Australian history. Full credit must go to Premier Perrottet, Treasurer Keen and TCorp for radically reducing the fiscal risks that NSW taxpayers face, and sparing future generations the burden of having to repay tens of billions of dollars of extra liabilities.

There remain some important outstanding policy issues for the NSW Treasurer Kean to resolve in respect of the Debt Retirement Fund. These include:

  • What to do with the circa $2.3 billion of debt-funded contributions NSW previously made to the fund in the 2021 financial year. These should self-evidently be harnessed for infrastructure funding and/or debt repayment (otherwise they will just represent NSW leveraging-up taxpayer money to punt on markets); and
  • What to do with the circa $15 billion of capital (including the $2.3 billion of abovementioned contributions) left in the Debt Retirement Fund once NSW repays its $11 billion in debt. Rather than gambling this on financial markets, the $15 billion should be deployed to pay for the $108.5 billion in infrastructure spending that Premier Perrottet has signed up for. After all, the $7 billion from the sale of the first-half of WestConnex that seeded the Debt Retirement Fund in 2018 was committed by Perrottet to pay for new infrastructure spending. This could be easily achieved by the Debt Retirement Fund buying bonds issued by the NSW to pay for future infrastructure spending, which is permitted under the NGF's legislation. 

As a lender to all the major state governments, Coolabah and our stakeholders, including super funds, believe that these are responsible ESG decisions that we would strongly support.

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Christopher Joye
Portfolio Manager & Chief Investment Officer
Coolabah Capital

Chris co-founded Coolabah in 2011, which today runs $7 billion with a team of 33 executives focussed on generating credit alpha from mispricings across fixed-income markets. In 2019, Chris was selected as one of FE fundinfo’s Top 10 “Alpha...

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