NEW YORK (Dow Jones)--Just 12 years after financial meltdown, Mexico's capital markets and currency are in better shape than ever. Increasingly, foreign companies and governments are issuing bonds in Mexican pesos as a cheaper way to borrow money than in their home markets.

Overseas firms with local operations often issue local-currency bonds, but the favorable macroeconomic scenario in Mexico has now opened the door for foreign issuers without any specific ties to Mexico.

"The phenomenon has been going on for the past six to 12 months, and more and more issuers are starting to look at the Mexican market as a new funding alternative. The reason behind that is the development of the local market," said Gerardo Rodriguez, head of Mexico's public credit department.

"Mexico, because of our macroeconomic policy and debt management strategy, has been able to also develop a very efficient local market, one in which you have important local players, (and) you have important players from abroad that are able to buy and sell our securities with a low transaction cost in a transparent environment," Rodriguez said.

So far this year, five eurobonds have been issued in Mexican pesos totaling about $592 million, according to TD Securities, citing Bloomberg data. Issuers include the Inter-American Development Bank, General Electric Capital Corporation (GEX.XX), and Germany's agricultural agency Rentenbank and development bank KfW (KFW.YY).

"Really the only rationale is that the financing is slightly cheaper," said Beat Siegenthaler, senior strategist at TD Securities in London, an investment house which has arranged a number of these types of transactions.

At the end of January, the government of Canada's Quebec province sold 1.5 billion Mexican pesos ($143 million) of 10-year bonds at par, paying a coupon of 8.27%, in an operation managed by Merrill Lynch.

However, Quebec secured a "rate of return of 4.56% calculated once the proceeds of the loan are converted into Canadian dollars," it said in a statement.

"This rate is slightly less than what it would have been for an issue with the same maturity on the Canadian market," the Quebec government said.

Quebec's finance minister, Michel Audet, said the peso issue also helps diversify the province's base of investors. "Under this policy, the Canadian market is not overly solicited and savings on debt service are achieved," Audet said in the statement.


Proceeds Swapped Back To Native Currency

Similarly, Germany's Rentenbank issues foreign currency denominated bonds to diversify funding currencies and thus also its investor base, said Stefan Goebel, co-head funding and assets at the bank.

"Proceeds are always swapped back into euros to eliminate the currency risk, as our lending base is in euros, too," Goebel said. The cost of funding "is a few basis points lower than direct issuance in euros and also compares favorably with swapped issuance in U.S. dollars or non-core currencies such as Swiss franc, Australian dollar or Canadian dollars," Goebel said.

Borrowers can choose between peso-denominated overseas bonds meeting international disclosure requirements, or local bonds issued under local market regulations, which are similar to 144A rules in the U.S.

After the currency swap, the borrower's obligations are to the bank that carried out the swap in its native currency, while the bank takes on the Mexican peso commitments on the bonds.

The operation is more straightforward than may seem at first sight, and is identical to the Samurai bonds issued in Japanese yen and the Matadores bonds issued in Spanish pesetas in the past, said Jorge Alonso, head of Latin America local markets sales and trading at JPMorgan.

"Foreign companies can fund at attractive levels in pesos and subsequently swap into dollars," Alonso said. "Depending on the type of currency involved, borrowers can enhance their funding by between 20 to 50 basis points compared with issuing in dollars in the normal euro market," he said.

"The ease of access, not only to the capital markets, but also the derivatives market to swap their issues back to whatever currencies they feel comfortable with, is part of the attractiveness of the local market as a new funding alternative," Rodriguez said. "Some of them, from the information I have, have decided to keep that exposure if they have a natural hedge or have some peso operations," Rodriguez said.

The trend has also been witnessed in a number of other markets over the last year. TD Securities has managed local-currency issuance in Icelandic krona and Botswana pula.


Increasing Attention On Local Buyers

Foreign borrowers with no links to Mexico tend to target their existing investor-base for initial issues, luring them with the higher yield on Mexican currency bonds than on their native currency issues. Furthermore, with yields on many foreign-currency sovereign bonds narrowing to record tight levels, many emerging market investors are increasingly turning to higher-yielding local-currency issues.

"The Mexican peso bonds we have issued so far were placed with investors outside Mexico, mainly in Europe," Retenbank's Goebel said. "These investors make their investment decision based on a diverse set of criteria, notably the attractiveness of the yield and the expected development of the exchange rate of the peso versus the investor's home currency," he said.

But booming local pension funds are also starting to pay attention to these issues, which often have better credit ratings than the investment-grade Mexican government.

"We are aware that there is a growing base of domestic investors, namely pension funds, which are prepared to invest in Mexican peso issues of foreign borrowers. The advantage of placing bonds with these investors would mainly be the diversification of our investor base," he said.

"It is also possible that these investors, once they are familiar with the Rentenbank credit, will consider investments into our issues not denominated in pesos," Goebel said.

Mexico's pension funds have been growing rapidly and now have nearly $60 billion assets under management, most of which is held in Mexican government bonds. But the government has recently been encouraging pension funds to expand their horizons.

"The Mexican pension funds legislation was recently changed and now the government is looking for pension funds to diversify their credit risk away from the Mexican government risk," Alonso said. "What this implies is that all of these pension funds are now being encouraged to look for credit risk outside of Mexico," Alonso said.

Quebec's government said its issue had to be increased by MXN500 million due to demand from buyers, including Mexican mutual funds, pension plans and insurance companies.

Foreign issuers may also be able to provide longer-duration bonds than their Mexican counterparts, which is especially attractive to Mexican local pension funds, Alonso said.

By the end of February, Mexican pension funds - known as Afores - had invested 1.5% of their holdings in foreign bonds through February, up from 0.6% at the end of 2005, according to the pension fund regulator, Consar.

-By Matthew Cowley, Dow Jones Newswires; 201 938 5692; [email protected]

(Tom Barkley in Mexico City contributed to this report)

(END) Dow Jones Newswires