Lebanon sold its first 10-year currency debt this week, giving banks access to higher-yielding securities, enabling them to raise deposit rates from the lowest since 1979 to attract customers. The Arab nation will pay an 8.24 percent coupon on the LL 1.15 trillion ($765 million) of notes it sold, the highest rate paid on domestic debt since July 2009. Egypt, which like Lebanon holds Standard & Poor’s non-investment-grade B rating, sold 10-year local currency debt at 16.33 percent at its last auction.
Banks in the Arab world’s most indebted nation rely on deposits from Lebanese nationals abroad to enable them to buy government debt, as the country struggles to reduce its budget deficit. Lenders had cut interest rates on local-currency deposits as the government slashed yields offered at bi-weekly debt auctions. The average deposit rate fell to 5.42 percent in April, the lowest since December 1979, before climbing to 5.45 percent in July, central bank data show.
“This 10-year issue at a high rate can help first ease the pressure on interest margins and support the deposit rates in Lebanon,” Marwan S. Barakat, the chief economist and head of research at Banque Audi SAL-Audi Saradar Group, said by phone Wednesday.
“The drop in deposit rates has meant that we’ve lost some competitiveness in the market.”
Lebanon’s total debt amounted to 134 percent of gross domestic product in 2011 and the nation’s budget deficit is expected to be little changed at 6.6 percent of GDP, Finance Minister Mohammad Safadi said in May.
Local lenders hold about 75 percent of the nation’s debt, Central Bank Governor Riad Salameh said Tuesday. Salameh banned banks from buying non-Lebanese risky assets including non-investment-grade paper and derivatives in 2004, allowing the government to lower its borrowing costs. The coupon on five-year local currency debt declined to 6.18 percent in October 2010 from 11.5 percent in October 2007.
The 10-year local-debt offering “was a really hot sale because we’re looking for yield, and short-term paper isn’t paying very much,” said Ray Majdalani, a Beirut-based fixed-income trader at First National Bank.
The yield on local-currency government debt rose 50 basis points in March, in line with an International Monetary Fund recommendation that higher rates would help spur bank demand for the securities.
The yield on five-year notes now stands at 6.74 percent. Non-resident deposits in Lebanese lira have risen 16 percent so far this year at commercial banks after falling 7 percent in 2011, central bank data show. The deposits rose 22 percent in 2010, and 161 percent in 2009.
The Economist Intelligence Unit said this month it had changed its outlook on Lebanese banks to negative, “to reflect the deteriorating economic picture. Banks’ dependence on foreign depositors and on the sovereign’s debt-servicing capacity is a long-term vulnerability.”
The nation’s credit risk is the second-highest in the Middle East after Iraq, according to data provider CMA.
Lebanon’s economic growth estimate for the year is between 2 percent and “less than 3 percent,” Salameh said, falling short of the IMF’s forecast of 3 percent. Trade and tourism have been affected by the “political and security environment in the area and its impact on Lebanon,” Salameh said. Tourism is Lebanon’s largest foreign-exchange earner.
Still, the central bank’s foreign reserves are at a record $35 billion as demand to hold Lebanese debt grows, Salameh said. Banks are confident in the local currency, “and the dollar is being sold to buy” lira, he said.
“That’s why the 10-year offering was successful.”
Confidence in the nation’s currency is stable even after deadly clashes in the northern city of Tripoli between supporters and opponents of Syrian President Bashar Assad. Lebanon, whose currency has been pegged to the dollar at about 1,500 since 1993, has seen deposits rise at an annualized rate of 7 percent this year, Salameh said.
“The central bank wants to keep liquidity of Lebanese pounds under control,” said Gaith Mansour, head of capital markets at Credit Libanais SAL Wednesday.
The central bank and the Ministry of Finance completed a $2 billion debt swap earlier this year to shore up confidence in the currency and keep interest rates stable. The ministry exchanged local-currency treasury bills held by the Banque du Liban for dollar-denominated bonds. Another $1 billion debt swap is “supposed to happen by year-end,” Salameh said.
“Lebanon’s currency has been stable for the past twenty years,” Audi’s Barakat said.
“With foreign reserves at a record high, more than 85 percent of all Lebanese pounds in the market are covered, which means the central bank is very well placed to defend the currency if it needs to.”