Issuer: Svensk Exportkredit
Amount: €10 billion
Programme launched: June 10 1991
Arrangers: BNP Capital Markets/SEK
The sudden reversal of dollar-yen rates in early May caught many investors by surprise. For the Japanese retail investors who had been profiting from dollar-bullish MTN structures for the preceding year it came as a rude awakening. “What has happened is very serious. There are a lot of investors who have lost large amounts of money,” says Per Akerlind, executive director and treasurer at Svensk Exportkredit (SEK). “But then that is part of the game. Previously they may have been gaining.”
Most had been gaining a lot. The dual-currency structures that had tempted them into the MTN market provided limited foreign exchange exposure to take advantage of the depreciating yen. By redeeming a yen-denominated principal in a foreign currency such as US or Australian dollars, investors were achieving yields of up to 25%. Not bad considering that Japan’s official discount rate stands at a meagre 0.5%. Such a strong winning streak was bound to end.
But some dissenting voices have been crying “foul” – if not against the letter, then against the spirit of the rules. In a market where borrowers have been posting very aggressive levels and intermediaries have been finding generous revenues, the investors, it is suggested, have been left short-changed. But are they just being bad losers, or do they have a genuine grievance?
SEK has been funding in Japan since the late 1970s. “They have created a niche for their name in Japan,” says Olivier Jalouneix, head of Euro-MTNs at Morgan Stanley. “In terms of Japanese demand they have been at the top of investors’ lists for a while, despite relatively aggressive levels.”
Jalouneix refers to SEK as being “professional, flexible, consistent and quick”, and as co-arranger of its own programme the agency is not one to shirk responsibility. “We like to be in the front line – taking as much control over our programme as possible,” says Akerlind. This also means that when the flak starts flying, they won’t be diving for cover.
Few issuers are more experienced or proficient at tapping the Japanese investor base, and SEK didn’t achieve its current status by selling investors dubious deals.
The trade dominating the retail market this year has been the three- or six-month dual-currency knock-in, paying a coupon of around 4%. If yen-dollar rates remain above a certain level (usually around ¥118 to the dollar), the redemption will be 100% of the principal in yen. But if at any time during the life of the deal the yen falls below the stated level, redemption will be in dollars at a predetermined rate, usually of around ¥125 to the dollar.
When the yen strengthened from ¥126 to ¥115 against the dollar during the first two weeks of May, triggering the knock-in on these deals, investors were left facing heavy losses. “Since the option has been triggered, the investor ends up at redemption with a dollar amount which equals around 10% less than current value,” says Takeo Sumino, associate director of debt syndicate at Nomura International.
The complaint coming from some quarters is that investors were not made fully aware of the risks inherent in the structure. “It concerns us very much,” says Akerlind. “The problem is that it is hard to know exactly how your product is being marketed.”
Japan’s market structure is partly to blame. Foreign investment banks can’t sell securities directly to retail investors because they don’t have a branch network. While the market remained small this did not concern the banks. But over the past year the retail market has grown increasingly important.
This year Akerlind estimates that 75% of SEK’s yen issues have been targeted at retail investors. “Outside of Japan there is not a tremendous amount of private placement MTN business going to retail, so it is a very interesting market,” says a trader at a US bank. “What Japan offers is good volume and lucrative fees.”
The outcome has been the forging of alliances between foreign investment banks and second- and third-tier securities houses. The bank originates the transaction, the securities brokerage distributes it to retail investors. “From the investment bank’s point of view, the deal is off their books. It is placed with a single investor – the domestic broker. The broker does all the marketing and assumes all the risk,” says one dealer.
This makes it very hard for SEK to keep track of its deals. “We have regular contact with the larger securities houses in Tokyo, but we don’t speak regularly to the small regional brokerages. That is in the hands of the investment banks,” says Akerlind. “I think as an issuer we are there to provide the product the investors want. It is the dealers’ and brokers’ job to sell and market the deal in the correct manner.”
But the control that the foreign banks can exercise is limited. “All we can say is that we believe the brokers who we traded with are marketing these bonds properly using the prepared prospectus screened by our lawyers,” says one London trader. Because the distribution of these deals is so disparate, it is virtually impossible for the bank to keep track of how the brokers market them to investors.
It is tempting to cast the investors as ordinary folk, dabbling in markets they don’t really understand. It is not a role that Akerlind feels they play particularly well. “I think these investors understand what they are buying, and are aware of the risks they are taking.”
Unlike retail buyers of MTNs in Europe and the US, the Japanese are not buy-and-hold investors. “When we started doing these trades the yen-dollar rate was in the high 80s,” says Akerlind. “During the last year we have seen the continuing depreciation of the yen, and we have seen massive sell-back of the bonds, with investors taking profits. If the investors weren’t aware of the currency markets, they wouldn’t have been selling the bonds back.”
But now investors have had their fingers burnt, will it mean the end of the burgeoning Japanese retail market? “Right now retail investors are reassessing the market,” says Sam Amalou, associate director at Daiwa Europe. “Where is the yen going to go, where is it going to stabilize? This will influence their choice of product.”
A lull can be expected, but dealers don’t see demand disappearing in the long term, even if the retail investors’ traditional investments – domestic equities and money markets – recapture their lustre. “What investors have found is that the returns they can get in the MTN market are better then those they got in equities anyway,” observes a dealer at a Japanese bank. “Another reason that the retail market will remain is that the securities houses make more money out of these trades than out of equities, and so will continue to push them to investors.”
Also making money out of these trades are the issuers. “The real beneficiaries have been the sovereigns and supranationals with shelf registration who can react quickly to market opportunities,” says Gavin Eddy, vice-president at Merrill Lynch.
“SEK was ready to do the ¥1 billion, three-month optional dual currency trades with ministry of finance filing, in order to meet investors’ demand,” says Morgan Stanley’s Jalouneix. “A lot of other issuers refused to do that deal as it could be viewed as either too small, too structured or too short. This is as flexible as it gets in the Euro-MTN market.”
This meant that SEK was able to post, and find, very aggressive pricing levels. Too aggressive for some, who suggest that issuers may have been abusing the Japanese market. “There are some borrowers who have been taking advantage of their name-recognition to sell into Japan,” says Akerlind. “But we are definitely not one of them.”
For short-term trades the levels are very aggressive, but not out of an effort to bleed investors of a last few basis points. “We price our deals consistently all along the curve. Not only do we need to account for risk, but we must also measure where our own needs are on the curve, how much we have outstanding, and where we are lending. I don’t want to be in a position where I have to turn down a 10-year deal because I have blown my balance sheet at the short end of the curve.”
Akerlind points out that of the $2.5 billion SEK has raised in the capital markets so far this year, the average maturity has been in excess of five years.
As a lender to the export industry SEK’s funding requirements are increasingly long-term, and multi-currency. “If a market works we will be there,” says Akerlind. “I think that as long as we get the funding that we want, then our strategy is right.” It’s logic that is hard to fault.
