As gilt yields continue to track at historically low levels, its not just authorities seeking new borrowing who are able to take advantage. The past few years have seen a resurgence in debt refinancing as authorities look for ways to make savings and run a more efficient debt portfolio in line with their projected borrowing requirement, i.e. the liability benchmark.
The Public Works Loan Board (PWLB) tends to stack up quite high when it comes to early repayment due early repayment rates that are below gilt yields (you’d be better off buying a gilt than prepaying PWLB debt!). However, some market lenders are keen to dissolve their loan books and are therefore willing to offer competitive discount rates for an early exit. Arlingclose has advised on over £1 billion of LOBO (Lender’s Option, Borrower’s Option) loan repayments over the past few years, providing authorities with certainty of cost by removing lender’s options.
However, when considering repayment, there are several factors to evaluate. Firstly, not all lenders are in the market to accept early prepayment, and therefore are less willing to offer a competitive rate. Lenders who are currently in the market are encouraged by a combination of the low interest rate environment and depressed value of embedded lender options, banking regulatory and accounting changes, the desire to reduce portfolios of non-core assets, and the reputational risk associated with local authority LOBOs.
Depending on the level of cash balances held, some authorities will need to replace the existing debt with new funding. Here is it crucial to run through the possible restructuring options and the risks associated with each of these. For example, replacing all of the debt with short-term, variable rate funding will present the biggest savings, but will also expose the authority to significant interest rate risk. Modelling varying interest rate scenarios will enable the authority to stress test the options to find the best fit. This will also act as an audit trail to show a clear justification for the chosen route.
Accounting implications also vary across the UK which affects the way the premium is calculated. This may mean that rescheduling looks viable for one authority but not another.
The activity over recent years has certainly shown that there is opportunity for authorities to be proactive, make savings and fix in certainty into budgets.
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