IS SÃO PAULO supplanting New York as the Latin American equity market of choice? Of the top 20 Latin American IPOs of 2006, only one – Argentine steel maker Ternium's – came with a listing in New York. Fifteen of the top 20 IPOs were Brazilian, and not one of them saw fit to pursue a dual listing. Meanwhile, average daily volume on Bovespa, Brazil’s stock exchange, soared 68% to $1.12 billion in 2006 from $667 million in 2005. Foreign participation on Bovespa continued to rise, even as various US grandees belly-ached in public about signs that New York was losing its status as a global financial centre.
The story, though, is far from clear. It turns out that the activity in New York was, in many ways, even stronger than that in São Paulo. The 96 US-listed American depositary receipts had a total trading volume of 12 billion shares with a total value of $402 billion: an increase of 65% in absolute volume terms, and an 86% rise in dollar terms. In other words, New York outperformed Brazil.
New York still has more Latin share volume than any market in Latin America, and the largest foreign investors in the Brazilian stock market – the likes of Wellington and Fidelity – are the biggest players in the ADR market as well. Even the primary market is reasonably healthy: New York hosted 15 Latin capital-raising transactions in 2006, an all-time high, raising a decent, if unspectacular, $2.8 billion.
The fact is that the flow of money into Latin American equities has been a boon to every market, not just the white-hot Brazilian Bovespa. Brazil is where nearly all of the IPOs are, and is therefore home to most of the investment banking fee income. But the era of blockbuster privatizations is over: the biggest Brazilian IPO in 2006, homebuilder Brascan, raised only $555 million. The real money is in the secondary market, which is one reason why the bolsas in both Mexico and Colombia are likely to go public in 2007. And the secondary market in Latin ADRs has never been healthier. Reports of New York’s death, it would seem, have been greatly exaggerated.
What’s more, the surge in Brazilian equity issues in 2006 could just be the first shoe dropping. The typical Brazilian IPO is between $200 million and $300 million, and gets oversubscribed quite easily in the domestic market. Since it’s so easy to sell those shares domestically, and so expensive to list in New York, it makes sense to restrict the IPO to the Bovespa. After all, many foreign investors prefer it that way, because it results in greater liquidity.
None of that means, however, that those companies aren’t dreaming of a time, maybe a couple of years on, when they could justify the expense of a US listing. "We are going to deliver the results we promised to our investors, and then we might come back to the market – in Brazil, or even to the New York Stock Exchange," says Sergio Segall, CEO of Brazilian homebuilder Klabin Segall, which had its $226 million IPO in October. "The NYSE is the most important market in the world," he adds. "It’s where you have more investors who are used to investing in other markets."
What’s more, companies with ADRs still trade at a significant premium to those without. That premium can reduce a company’s cost of equity capital by up to 100 basis points and, though some studies show the premium is falling, it still exists – and is worth taking advantage of if your company is big enough. For a small company, spending millions of dollars a year on Sarbanes-Oxley compliance might never be justifiable; for a large one, it can still be a no-brainer.
"As these companies develop in their corporate life cycle, the next step is to list in the US," says Anthony Moro, a vice-president at Bank of New York – the depositary for most ADRs. "We’re looking for these guys to upgrade at some point in the future. The costs are obviously a lot higher, and their local markets are deeper than they were. But they do have significant demand from US investors."
The US, after all, is still home to an astonishing number of investors who will never have the ability or inclination to buy stocks abroad. There are the retail investors, of course – many of whom have doubled their emerging-market exposure in recent years – and then there are exchange-traded funds and managed accounts. Moro says: "Anything where there’s an accounting aspect, it’s a lot easier to buy dollar-denominated securities which settle here in the US."
And for Latin America’s largest world-class companies, New York is truly their home: América Móvil, for instance, has $44 billion of ADRs outstanding, over half its $80 billion market capitalization.
For smaller companies, though, there have never been more foreign investors beating a path to Brazil – which explains why the total number of IPOs in Latin America rose from zero in 2001 to 20 in 2005 to 34 in 2006, and 2007 is on track to meet or beat even that number.
Whether the surge is sustainable or not is another matter. Anecdotally (and off the record), bankers worry that a market where selling a mere 35% of an IPO to domestic investors is considered proof of a solid buy-and-hold Brazilian institutional investor base – especially when some of the most aggressive buyers seem to be hedge funds that know little about emerging markets and that are mainly interested in the carry trade: buying Brazilian real-denominated securities while funding in Japanese yen.
Looking forward, there might be more demand for larger and more liquid stocks. At the very least, Brazil might see more follow-on offerings than IPOs in future – something that happened since 2003. The Brazilian stock market doesn’t need yet another homebuilder to come to market: what it needs is the existing homebuilders to start coming with secondary offerings to fund consolidation in the industry.