The decision by the US Federal Reserve last Thursday not to raise interest rates comes at an opportune moment for Iran, as the country prepares itself for a post-sanctions world in which it aims to tap into international bond markets.
Although officials in some developing countries have called on the Fed to raise rates sooner to end the uncertainty about when close to zero percent interest rates will be lifted, Iran hopes to make use of record low borrowing costs in the West by selling its own debts.
Middle Eastern countries have over the past months massively entered international bond markets to plug budget gaps caused by extreme fall in oil prices over the past year. In July, Saudi Arabia issued its first sovereign bonds since 2007, amounting to $4 billion. By the yearend, the kingdom aims to raise $27 billion through issuing bonds.
Iraq is also planning to issue its first bonds since 2006, as state administration costs have spiraled. The Iraqi government hopes the bond sales, arranged by Citigroup, Deutsche Bank and JPMorgan and expected any day, will raise up to $4 billion. Investors, uncertain about the country’s political future and the ability to pay back, have a low price in mind for the bonds, pushing up yields to the 10% level.
Iran has also been hit hard by falling oil prices. The government estimates that the budget deficit for the current Iranian fiscal year (ending March 19, 2016) will amount to 3.8%, the highest level since the Iran-Iraq War.
However, western sanctions imposed against Iran over its nuclear energy program have so far prevented the country from accessing international bond markets. The government hopes that its healthy financial record will push down yields on any bond sale.
The Islamic Republic prides itself on not having failed once in its 35-year history to pay debt installments. The World Economic Forum puts the Iranian government’s debt at a low 11.4% of GDP, the vast majority of which is held by the private sector, notably private contractors in the infrastructure industry and local banks.
Wide Range of Sukuks
Iran has one of the most advanced Islamic markets in the region and issues a wide range of sukuks, or non-interest bearing debt securities.
Some of Iran’s largest companies, notably in oil and petrochemicals, require significant amounts of capital to reach potential output.
“Oil, petrochemicals and power plants are expected to issue dollar-denominated sukuks in the near future,” Ali Sanginian, CEO of Amin Investment Bank, told Al-Monitor.
The sovereign collateral of these industries is substantial, likely pushing down the yields on corporate bonds. The airline industry is another sector that might issue debt to service its aging fleet.
The most crucial question for Iran is not if, but when it will be able to enter international bond markets. Many analysts believe that foreign banks will wait until sanctions are officially removed as US financial regulators have punished major banks, including Commerzbank, Deutsche Bank, Standard Chartered and HSBC, for violating the sanctions against Iran.
Renaissance Capital estimates that $1 billion will flow into Iran the first year after sanctions are lifted, calling it unlikely that an international bond issuance will take place in this period.
Despite the economic and political needs to quickly raise funds through the bond market, there are logistic obstacles that might postpone any issuance. Perhaps the most important is the relatively small size of the Iranian bond market.
Bond trading at Iran Fara Bourse is relatively small, handling only about $1.5 billion in contrast to the $7 billion of debt issued through the financial system.
Meanwhile, the Fed remains split on whether it plans to raise rates. While the majority of policymakers still predict a rate rise before the yearend, some put the date in 2016 and others believe the policy will not change before 2017. Particularly the second and the third scenarios are attractive to Iran, which expects sanctions to be lifted in early 2016.
