Saudi Arabia is borrowing at negative rates for the first time as oil recovers

One of the most oil-dependent countries in the world, Saudi Arabia has regularly tapped into international bond markets since 2016 to balance its budget amid fluctuations in crude oil. The economy shrank 3.9% last year when the coronavirus pandemic hit global energy demand, according to estimates by the International Monetary Fund, leaving it with a budget deficit of 12% of economic output in December.

The government has come up with a plan to more than halve this deficit by cutting this year. The decision to spend in euros is likely part of that, analysts said.

The eurozone has had a negative policy rate since 2014, which serves as a reference for sovereign and corporate debt, reducing the total cost of borrowing in euros. Governments and companies around the world often use the European bond market to access cheaper funds. China was able to borrow at negative interest rates for the first time last year in a three-part sale of euro-denominated debt.

“It makes sense to them as they diversify their funding base and get significantly lower funding costs,” said Zeina Rizk, executive director and fixed income portfolio manager at Arqaam Capital in Dubai. Wednesday’s issue size is surprisingly small, but the order book showed there was still demand, she said.

Saudi Arabia’s economy is expected to recover as oil prices recover. HSBC economists expect gross domestic product to rise to 4% by 2021.

The global benchmark Brent crude oil is up more than 26% so far this year, bringing the price back to pre-pandemic levels. OPEC members and a group of large producers outside of the cartel led by Russia have largely insisted on the production cuts introduced to lower supply and support prices while the pandemic crushed energy demand. In December, they corresponded to a very modest increase of half a million barrels per day.

Saudi Arabia surprisingly said last month that it would further reduce its production by one million barrels per day. Unfavorable Texas winter weather further reduced global crude oil supplies as pipelines and equipment in shale oil fields froze, although this has largely recovered in recent days.

“Saudi Arabia currently appears to be in control of the oil price; they clearly have a fair amount of spare capacity, ”said Kieran Curtis, emerging markets fund manager at Aberdeen Standard Investments. He said he expects Saudi Arabia to be able to ramp up production as the global economy recovers and energy demand picks up.

The kingdom’s advisers told The Wall Street Journal that this is currently being considered, and that Saudi Arabia’s production could be increased in the coming months.

“They come from a strong position in this,” said Mohieddine Kronfol, a portfolio manager at Franklin Templeton with a focus on Middle Eastern bonds. “Financially they have coped reasonably well with the virus; we are starting to see a recovery. They have managed to control the effects of oil price volatility.

He is overweight Saudi bonds, which means the fund he manages owns more than the benchmark it tracks.

Still, returns are too low for some investors to be interested.

“We don’t think these bonds offer much value due to tight spreads,” said Joseph Mouawad, an international bond fund manager at Carmignac. But for investors who only invest in bonds denominated in euros, Wednesday’s issue could make sense, he said.

“You have a lot of mandates and cash that have to be used in fixed-income instruments. These euros need a house, ”he said. “With most of Europe’s sovereign space in negative territory, safer emerging markets countries look increasingly attractive.”

Write to Anna Hirtenstein at [email protected]