Treasury Closes Record Bond Issue

Israel closed its largest government bond issue ever last Thursday, raising $1.5 billion in 10-year bonds, three times its original offer.

The yield on the bonds closed at 5.19%, which is 2.625% (262.5 basis points) above the yield on similar 10-year U.S. Treasury bonds.

The preliminary guidance on the bonds' yield was in the 287.5 basis point range, 25 points above the final price.

The issue closed after a two-day road show by three different treasury teams in the U.S. and Europe. The issue was led by Finance Ministry Accountant General Yehoshua (Shuki) Oren. His deputy Ami Landau and the ministry's representative in New York, Zvi Halamish, led the other two teams.

The main investment banks that managed the deal were Citigroup, Deutsche Bank and Goldman Sachs.

The suspense and drama began just two hours before the treasury officials were planning to close the deal, pull out the champagne and celebrate a successful offering.

The U.S. Federal Reserve Board announced Wednesday that it was going to buy another $1.15 trillion in mortgage-backed securities, government bonds and other assets, and this pushed down yields on U.S. Treasurys by about 0.4%.

Because the price of the Israeli issue was tied to the price of similar U.S. bonds, the treasury officials found themselves debating whether to compensate investors for the sudden, unexpected change in prices. In the end, they decided against such a move.

Fed Chairman Ben Bernanke's action pushed down the final interest rate on the Israeli bonds to 5.19%, which will save Israel $50 million over the life of the bonds. The original forecast was for a 5.57% coupon.

Demand for the bonds totaled $12 billion from some 300 investors in 14 countries. Large demand from foreign investors not only tripled the amount offered, but in the end 95% of the bonds went to non-Israeli investors. Only 5% went to Israelis, despite almost $4 billion in orders from Israeli institutions. The foreigners included investors from the U.S., Britain, Switzerland, Denmark, Spain, Italy, Belgium and other countries.

The huge demand for the bonds did not end after the issue closed: Investors bought bonds on the market and drove prices up by 1% on Friday, translating into a 0.1% drop in yields. It was not clear whether Israelis or foreigners were buying the bonds.

Fitch Ratings gave the sovereign bond an A rating.

Previously, the largest dollar bond issue that Israel sold based on its own credit-worthiness was in November 2006, when it raised $1 billion. Israel can raise debt capital backed by U.S. government guarantees. This gives the bonds a AAA rating, thus reducing costs.

On its own, Israel's investment grade credit rating is A from Standard & Poor's and Fitch, and A1 from Moody's Investors Service.

Israel still has $3.8 billion in U.S. guarantees it can use, based on the 2003 guarantees program. For now, the treasury is keeping this as a safety cushion.

"It is a sign of how attractive the Israeli market is, especially when the global economy is in turmoil and crisis," said Finance Minister Roni Bar-On. He called it a vote of confidence in the Israeli economy.

"It is an important step that will improve Israel's ability to address the economic crisis and finance its economic activity in 2009," said Bar-On.

The state's return to international bond markets after a three-year absence serves as a benchmark to set the Israeli economy's risk level in international markets. The success of the issue is expected to help Israeli businesses raise money overseas at a relatively low price, as well as to reduce pressure on local credit markets.