Governments including Senegal, Angola and Nigeria are increasingly using total return swaps (TRS) to raise funding from banks, but the structures are creating concerns among sovereign bondholders about creditor priority in future debt restructurings, according to a report by Bloomberg.

TRS, more commonly used by hedge funds to gain exposure to assets without owning them directly, allow governments to pledge their own bonds as collateral for bank financing. The arrangements can provide relatively cheap and fast access to cash, but falling bond prices can trigger additional collateral requirements when sovereign finances are already under pressure.

The structures can also be difficult for investors to assess because TRS are classified as derivatives rather than conventional loans, potentially limiting transparency around a country's borrowing and collateral obligations.

Senegal is now providing a key test. Following the discovery of around $7bn of previously unreported borrowing in 2024 and the suspension of its IMF programme, the country raised about $1.24bn through TRS with lenders including Africa Finance Corp., Société Générale and First Abu Dhabi Bank.

Senegal said the funding cost about 7%, versus an estimated 11% to 12% on international markets. The government is now restructuring its debt, leaving bondholders concerned that the banks could receive preferential treatment.

There is no established precedent for restructuring sovereign TRS. Ecuador provides a warning: it repaid $1bn to Goldman Sachs and Credit Suisse in 2020 before restructuring its dollar bonds, with Fitch subsequently saying bondholders suffered larger losses than they would have if the bank creditors had participated.

First Abu Dhabi Bank is also involved in Nigeria's $5bn TRS, while JPMorgan has provided Angola with $1.5bn through a TRS arrangement. Colombia, which raised $9.3bn through TRS last year, has since unwound its transactions.

For hedge funds familiar with TRS, the growing use of the instruments by sovereign borrowers highlights a broader issue: financing structures designed to provide governments with cheaper access to capital could ultimately alter creditor seniority and increase losses for traditional bondholders during restructurings.