London Stock Exchange Group – Written evidence (ZAF0049)

Submission on Local Currency Bond Markets for House of Lords International Relations Committee Inquiry “UK and Sub-Saharan Africa - prosperity, peace and development co-operation

1. London Stock Exchange Group (LSEG) is a diversified global financial markets infrastructure business focused on Information Services, Risk and Balance Sheet Management and Capital Formation. The Group supports global financial stability and sustainable economic growth by enabling businesses and economies to fund innovation and manage risk.

2. This submission looks at how raising debt finance from offshore capital pools in local currencies can serve as an important source of investment for African economies, mitigating an issuer’s currency risk associated with borrowing in a hard currency. This topic is especially relevant in light of recent falls in commodity prices and the economic shock of the Covid-19 crisis that has resulted in the appreciation of the US Dollar vis-à-vis emerging market currencies. This submission provides an overview of LSEG’s activity related to the development of local currency bond markets, with a focus on emerging markets.

LSEG in Africa: A long-term partnership

3. London Stock Exchange Group has a long history of working in partnership with Africa, supporting the development of African capital markets and investment in African companies and infrastructure. LSEG has a partnership approach and a long- term commitment to the continent. The UK-Africa Investment Summit in January 2020 was an opportunity to deepen and widen links. Associated with the Summit, LSEG commemorated landmark transactions supporting Kenya and Rwanda, described in sections 31 and 32 below.

4. LSEG works closely with exchanges across Africa. LSEG’s market infrastructure technology is deployed in 10 African markets, including Botswana Stock Exchange, Casablanca Stock Exchange and Johannesburg Stock Exchange. FTSE Russell, a global provider of benchmarks, analytics and data solutions and part of LSEG, has worked since 2002 with Johannesburg Stock Exchange to calculate its domestic indexes. Since 2015, our FTSE/JSE Responsible Investment Index Series represents to investors, the performance of South African listed companies that meet environmental social and governance performance thresholds. LSEG has a partnership with the Nigerian Stock Exchange to support African companies seeking dual listings in London and Lagos. With Casablanca Stock Exchange, we share expertise across the full financial markets value chain from listing and trading to clearing and settlement and custody, supporting their ambition to position Casablanca as a regional hub for capital markets and financial infrastructure.

5. There are 121 African companies with equity listed on and / or trading on London Stock Exchange – more than on any other international stock exchange. These companies have a total market capitalisation of over US$185 billion, and since 2008 have raised $25 billion on London’s markets.1 2019 saw two landmark IPOs from telecommunications companies that raised a combined value of over $1bn: Helios Towers and Airtel Africa.

6. LSEG’s Academy delivers specialised training programmes to companies, market practitioners, governments and regulators around the world related to capital markets. In 2019, LSEG delivered a training course to Kenya’s Ministry of Petroleum on Environmental, Social and Governance (ESG) considerations, to support the Ministry and state-owned companies develop planning related to ESG-aligned management practices and work towards achieving international standards. In 2018, we organised a series of capacity building workshops in London and Cairo on capital markets knowledge and practices with the Egyptian Stock Exchange’s management team.

Overview to London Stock Exchange’s bond markets

7. London Stock Exchange is a global leader in international sovereign and corporate bond issuances, with over 12,900 debt instruments listed, from more than 1,150 fixed income issuers, from over 70 countries. These issuances have raised more than $5 trillion in debt capital.

8. London is a leading marketplace supporting international sovereign bond issuances, having welcomed 238 foreign government bonds from 40 issuers, denominated in 7 currencies. These sovereign, state and local government bonds raised more than $4tn equivalent on our markets to date. African sovereigns that have recently listed bonds in London include Angola, Egypt, Ghana, Kenya and Nigeria.

9. London is a leading venue for emerging market local currency bond issuances. We currently have listed 124 Chinese RMB (Dim Sum) bonds, 30 Indian Rupee (Masala) bonds and 24 Indonesian Rupiah (Komodo) bonds.

10. There are 55 bonds currently listed in London from African issuers (both governments and companies) that have collectively raised over $40bn equivalent. Of these bonds, 50 are dominated in USD, with one each in GBP, Euro, South African Rand, Kenyan Shilling and Ghanaian Cedi.

11. London Stock Exchange has 70 bonds denominated in African local currencies listed on our market, including 63 in South African Rand, 2 in Ghanaian Cedi, 2 in Kenyan Shilling, 2 in Nigerian Naira and 1 in Rwanda Francs. Most African local currency bonds are issued in South African Rand by non-African corporates such as Commonwealth Bank of Australia, Royal Bank of Canada, Lloyds Bank Plc and multilateral development banks such as European Bank of Reconstruction & Development and International Finance Corporation.

1 Data is as of 20th February 2020 2 12. In October 2019, London Stock Exchange launched the Sustainable Bond Market, expanding its green bond market to include new dedicated segments for social and sustainability bonds, and a new issuer-level segment for bonds by issuers whose core business activity is aligned with the green economy. London Stock Exchange is home to 237 active sustainable bonds, which raised over £45bn, in 17 currencies from over 60 issuers; 42 percent are international issuers. On 3rd April 2020, African Development Bank (AfDB) admitted its $3 billion ‘Fight COVID-19’ social sustainable bond to London Stock Exchange. Proceeds from AfDB’s social bond are aimed at alleviating the economic and social impact of the COVID-19 pandemic across Africa. This is the largest social sustainable bond to be admitted to London’s Sustainable Bond Market.

Discussion: how international bond markets support emerging market infrastructure investment

13. African countries have experienced strong GDP growth over the last two decades. For the continent to sustain this long-term growth trajectory, substantial investment is required in each economy, especially in the infrastructure sector. The current Covid-19 health crisis may challenge debt sustainability ratios. In the long-term it highlights even further need for health infrastructure and more resilient economies.

14. The size of infrastructure investment required in Africa, as in other rapidly growing emerging markets countries, significantly exceeds the sums that domestic capital markets are currently able to provide. The African Development Bank in 2018 estimated that Africa’s infrastructure investment needs amount to $130 to $170bn a year, with a financing gap in the range of $68 to $108bn.2

15. Raising debt remains the most predictable source of financing for Africa’s economic and social transformation over the long term. African capital markets have developed significantly in terms of sophistication and participation over the last decade. However, they still do not have the local investment capacity to raise sufficient capital to meet the required levels necessary for domestic infrastructure investment. With limited local funds available for investment, raising the required debt from domestic investors may in the near-term create competition with other local investment opportunities, resulting in reduced investment in other important sectors of the local economy.

16. Given these factors, African countries often pursue international debt financing on international exchanges, tapping a diverse pool of global investors. These international investors are attracted to Africa investment opportunities, seeking access to higher yield emerging market debt. Many of these international investors may not have direct access to African capital markets, being restricted by policy or technical considerations.

2 AfDB Africa Economic Outlook 2018 https://www.afdb.org/fileadmin/uploads/afdb/Documents/Publications/2018AEO/African_Economic_Outlook_2018 _-_EN_Chapter3.pdf 3 Overview of currency risks associated with borrowing in hard currencies

17. Borrowing in hard currency (like US dollars) to fund projects in the local currency leaves African countries (and other emerging economies) vulnerable to currency risk. This becomes costly when currency movements become volatile and when local currencies devalue against hard currencies such as USD. This occurs in circumstances such as when commodity prices fall (like oil) and during economic shocks (such as the Covid-19 crisis) that result in a ‘flight to safety’ to hard currencies like the US dollar, vis-à-vis emerging market currencies.

18. As the dollar appreciates relative to the local currency, the cost to servicing dollar debt increases for African issuers whose revenues are derived in local currency. Accordingly, borrowers will have to post more domestic currency as collateral, and a larger share of revenues accrued in local currency would be channelled to pay back the borrowing. For an emerging market borrower, the combination of intensified fiscal pressures and exchange rate depreciation inflates debt levels. In the context of lower growth and credit rating downgrades, this may increase the exposure and vulnerability of these economies.

Benefits of local currency bonds

19. Offshore local currency financing reduces a country’s dependency on foreign currency and the potential impacts of external shocks, including higher debt servicing costs for issuers that have local currency revenue streams. A local currency bond is denominated in a country’s currency (such as the Nigerian naira or Kenyan shilling), instead of in hard currency (usually US dollars). An international investor will take on the local currency exchange rate risk, instead of the issuer, or may manage exchange rate risk through products like non-deliverable forwards. The investor will usually settle the bond in dollars at the current exchange rate, though the bond is denominated in local currency.

20. Development of the offshore local currency bond markets increases familiarity for international investors with the local currency, diversifies the investor base in bonds, and increases demand for onshore African securities following exposure to local currency products on international markets. It also reduces a government’s need for precautionary hard currency reserve holdings.

21. Offshore local currency markets in some cases can offer the issuer lower borrowing costs than from onshore debt markets or bank lending. Establishing a sovereign yield curve through issuing offshore local currency bonds across multiple tenors (such as three, five, seven and 15) could support liquidity in the offshore local currency bond market as it enhances price discovery for corporates that are looking to raise capital in local currency in the international markets.

Multilateral initiatives to support local currency bond markets

4 22. There have been numerous initiatives over the past decade by leading multilateral development banks, in collaboration with African governments, to develop local currency bond markets. The majority of these initiatives have been focused on developing onshore local currency bond markets to help deepen domestic capital markets and increase participation of global investors in these markets. The more recent African initiatives to promote the development of offshore Nigeria and Rwanda local currency bond markets have been led by the African Development Bank and the World Bank’s International Bank for Reconstruction and Development. However, there have been fewer African currency offshore local currency bond initiatives than in Asian currencies.

LSEG recommendations on developing emerging market local currency bond markets

23. In November 2018, LSEG launched a series of reports on African capital market development, produced in conjunction with LSEG’s Africa Advisory Group (LAAG). The five reports put forward recommendations on how African capital markets could be further developed, with the objective of increasing global investment flows into Africa. The reports have been shared widely with UK government, African governments and policymakers.

24. One of these reports, a 13-page analysis, ‘Developing offshore local currency bond markets for Africa’ explores a number of topics highlighted in this submission and is available online and in print. 3 The report provides case studies of the development of the Indian Masala bond market and the Indonesian Komodo bond market, where the offshore local currency market became self-sustained following successful initiatives to establish these offshore local currency markets.

25. The report outlines a number of recommendations to develop Africa’s local currency bond markets over the long-term, including:

 26. Ensuring support from policymakers, underpinned by a government- wide strategy. This includes buy-in from the central bank, ministry of finance, debt management office, capital markets authority and other relevant regulators.

 27. Engaging with credit enhancing institutions such as multilateral development banks (MDBs). MDBs have played a critical role in establishing and ensuring the continuity of offshore local currency bond markets. Institutions such as the World Bank’s International Finance Corporation provide the platform for governments, parastatals and corporates, to access the market through credit-enhancing the issuance of the first offshore local currency bonds. Though this progress, MDBs work closely with international stock exchanges to

3 LSEG Africa Advisory Group Reports, November 2018 https://www.lseg.com/resources/lseg-africa-advisory- group 5 develop an AAA yield curve over various tenors, familiarise international investors with the currency and reduce the liquidity premium (the higher cost for investors of buying and selling illiquid or infrequently traded instruments) for inaugural issuances.

 28. Carrying out non-deal roadshow events internationally to establish investor demand. Building and maintaining investor relations is key to creating the investor base for the local currency bond market. Working together with global financial centres familiar with African markets can be essential to attract long-term investors, such as pension and insurance funds, that are seeking to diversify their portfolios.

LSEG’s recent local currency bond listings from Africa

29. During 2020, LSEG has collaborated with key participants from the UK as well as African governments, and central banks, international finance institutions and GuarantCo (the credit-enhancing part of the Private Infrastructure Development Group funded by DFID), to support a number of high-profile local currency bond issuances from Africa. London Stock Exchange hosted market open ceremonies with political and corporate leaders to commemorate these landmark transactions, which are expected to have a demonstration effect.

30. The recent issuances include:

 31. Quantum Terminals corporate bond, dual-listed its 45mn Ghanaian cedi (USD 10mn equivalent) bond to support the operations of its liquid petroleum gas storage business. This investment will help alleviate severe power shortages in Ghana and enable the use of cleaner cooking fuels, benefiting women and children who would otherwise suffer from respiratory problems from inhaling smoke from dirtier cooking fuels. The transaction was credit-enhanced by GuarantCo. (November 2019, also dual-listed on the Ghana Stock Exchange).4

 32. Acorn Holdings corporate green bond, dual-listed its 4.3bn Kenyan shilling (GBP 6mn equivalent) green bond. The purpose-built student accommodation property developer used the proceeds to finance the construction of green-certified student properties developed by Acorn, to create clean, safe, and affordable accommodation for 5,000 students in Nairobi. The transaction was credit-enhanced by GuarantCo (January 2020, also listed on Nairobi Securities Exchange).5

4 London Stock Exchange press release, November 2019 https://www.lseg.com/markets-products-and- services/our-markets/london-stock-exchange/equities-markets/raising-equity-finance/market-open- ceremony/london-stock-exchange-welcomes-quantum-terminals-group-celebrating-its-bond-listing-ism 5 London Stock Exchange press release, January 2020 https://www.lseg.com/markets-products-and-services/our- markets/london-stock-exchange/equities-markets/raising-equity-finance/market-open-ceremony/london-stock- exchange-welcomes-his-excellency-president-uhuru-kenyatta-edward-kirathe-ceo-acorn-holdings-ltd-and-rt-hon- alok 6  33. Rwandan franc bond, issued by the International Bank for Reconstruction and Development (the lending arm of the World Bank) raised 37 billion Rwandan franc (USD 40m equivalent) in a 3-year tenure bond at 9.5%. The issuance supports the development of the Rwandan capital market by drawing international investors’ attention to the economic potential of Rwanda (January 2020.)6

34. Aligned with recommendations to support local-currency related non-deal investor engagement, LSEG organised and hosted a roundtable in January 2020, coinciding with the UK-Africa Investment Summit, to discuss the development of the Nigerian local currency bond market. Attendees of the roundtable included the Nigeria Minister of Finance, Head of the Nigerian Debt Management Office, Governor of the Central Bank of Nigeria, the UK Secretary of State for International Development, and a range of emerging market bond investors.

Conclusion

35. London Stock Exchange Group remains committed to supporting UK government and multilateral initiatives and policy frameworks that enable the growth of international investment into African infrastructure, especially as the continent responds to the Covid-19 crisis.

36. While the examples from India and Indonesia provide unique market-specific reasons for developing offshore local currency bond markets, these experiences are relevant for African countries considering similar policies. The first few international issuances designated in local currencies generally need to be supported by credit- enhancing institutions like GuarantCo or multilateral development banks in order to establish a yield curve, reduce the liquidity premium, and familiarise international investors with a local currency. Support by governments and multilateral organisations for the initial development of offshore local currency bonds from emerging markets is therefore integral to these initiatives, and ultimately establishes more resilient and commercially sustainable international financing channels in the medium to long term.

37. LSEG objectives are aligned with UK and African government priorities including the development of local currency bond markets as a means to support economic resilience and international investment in African infrastructure. Given the financing gap in African infrastructure and the adverse economic impact of the Covid-19 crisis, London is well placed to draw upon its capabilities to support the initiatives to enable this investment.

Received 30 April 2020

6 World Bank press release, January 2020 https://www.worldbank.org/en/news/press-release/2020/01/20/world- bank-launches-inaugural-bond-in-rwandan-franc

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