With margins shrinking in traditional capital-raising areas in the emerging markets, banks have to look farther afield to make money. One product that is beginning to whet bankers’ appetites is convertible bonds.
The instrument is not new to the emerging markets, but historically issuance has been spotty. In India and Taiwan, for example, convertibles are a common tool for corporate and bank fund-raising. In emerging Europe and the Middle East, however, borrowers have been less willing to dip their toes in the convertibles water, and the product does not exist in Latin America.
There are signs that the situation is changing, especially in emerging Europe and the Middle East. Already this year a handful of deals have been priced out of the region, including transactions by Hungary’s Mol, Russia’s Mechel, Egypt’s Weather Investments and the UAE’s Dubai Ports World. Some transactions have been more successful than others but at least the indication is that the product is hitting corporates’ radar screens.
Certainly, the environment has never been more supportive for convertible bonds. With central banks tightening monetary policy, financial market volatility has returned. In addition, economic fundamentals remain strong in much of the region.
But the immediate spur to the growth in convertibles issuance is M&A activity. With more emerging market companies expanding through acquisitions, both regionally and globally, a convertible can be a useful financing tool, especially as issuers need to make efficient use of their capital structure. Another theme that will keep convertibles in the spotlight is company owners divesting their shares. Again the product provides a quick and flexible way for corporate executives to monetize their stakes.
Investors, too, are attracted to the asset class. Buyers are largely hedge funds and, increasingly, specialist convertible funds. These investors, especially the hedge funds, are desperate for the product in their search for yield, according to one senior emerging markets investment banker. Moreover, as the Dubai Ports transaction demonstrated, a convertible enables investors to get guaranteed exposure to the region’s equity markets.
So far all the deals issued out of emerging Europe and the Middle East have been highly structured and tailored financial solutions. However, bankers say that more conventional transactions should hit the market in the coming months. What’s stopping the product becoming more dominant in the region is a lack of a sufficient number of listed and liquid companies. But it is to be hoped this will change. The equity markets are performing well, with indices in such countries as Poland, Russia and Hungary all up more than 10% in dollar terms since the beginning of the year, while the credit story in the region is proving robust.
Whatever else, the greater interest in convertible bonds is a further show of faith in the emerging markets.
