State bonds lose appeal to offshore investors

FOREIGN investors' interest in bonds sold by state governments has cooled, just as some have been feeling pressure on credit ratings.

FOREIGN investors' interest in bonds sold by state governments has cooled, just as some have been feeling pressure on credit ratings.

However, the nation's big banks have been picking up the shortfall as they prepare for the introduction of new rules forcing them to pump up their asset holdings.

Overseas ownership of of state government bonds - also known as semi-government bonds - fell by $1.1 billion in the September quarter according to figures released by the Bureau of Statistics.

This has resulted in the overseas percentage ownership of semi-government bonds falling to 33.8 per cent from 36.2 per cent in the June quarter.

State bonds on issue rose by $10.2 billion to $203.8 billion in the September quarter, according to the ABS data.

In recent months S&P's downgraded South Australia to "AA" and placed the "AAA" rating of NSW and Western Australia on "negative outlook". Victoria was left at "AAA". Queensland is under review.

The waning foreign interest is consistent with figures for bonds sold by the Australian government, with overseas buying slowing to a four-year low.

Lower outright yields and a high Australian dollar also reduced the attractiveness of Australian bonds for foreign investors.

Foreign capital in search of a haven flooded into Australian government bonds earlier this year, and the trend has been blamed for keeping the Australian dollar high despite weaker export prices.

Even so, the ANZ interest rate strategist, Tony Morriss, said there was "modest scope" for increased interest in state government bonds among investors.

"They continue to offer value in an environment where yield demand remains a key driver for credit spreads into 2013," he said.

"We expect overseas ownership to increase in the December quarter considering the relative attractiveness of yields in the [semi-government bond] space," Mr Morriss said.