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In the capital-raising stakes, 2001 could not have been more different than the previous year. After some astounding equity valuations in 2000, particularly in technology, media and telecoms and the subsequent nosedive of those stocks, markets have returned to more realistic levels. Coupled with a slowdown in growth in the US and Europe and aggressive rate-cutting by the US Federal Reserve, 2001 has been slow for equities, particularly new issues.
In contrast to the gloom among equity traders the debt markets have rarely had it so good. Active debt markets have engendered a favourable environment for borrowers and a boom in interest in credit product among investors. Though some on the equity side argue that not everything is bad in the stock markets, 2001 has been the year of debt.
Michael Turnbull, managing director, debt capital markets, at Morgan Stanley, sums up: “2001 has been an outstanding year. Performance against government indices and other asset classes has been very strong.” Similarly, Derek Mills, managing director in debt syndicate at Deutsche Bank, number-one in this year’s Euromoney capital raising poll, is very pleased with the performance of the market in the past 12 months. “It has been an extremely good year, in terms of volume of issuance, for a number of reasons,” he says.
As rates fall, bonds boom
Perhaps the most important of the factors cited by Mills is on a macro level. Turmoil in the equity markets in recent times has led corporates to look to credit rather than equity issues to meet funding needs. With volatility across the board, and particularly acute fluctuations in some sectors, debt funding is a more reliable bet than stock issuance. The interest rate environment is also crucial. With rates falling in the US and Europe, there are strong incentives for bond investors to take advantage and buy, for bond traders and underwriters to take positions and for corporates to raise cash by borrowing on the debt capital markets. Turnbull says: “Performance has been largely driven by the easing by the Fed.” Although the European Central Bank has been more circumspect in this respect, performance in Europe has also been impressive.
| Mark Watson | ||||||
Mills draws attention to another factor that he feels is driving the boom in debt issuance: the advent of the euro. “Since the euro was launched,” he says, “the credit market has really accelerated in terms of scope, size and maturities.” Mark Watson, managing director and co-head of European credit markets for Citigroup, agrees: “The euro has really laid the foundation for a robust debt market in Europe.” The effects of the single currency are now beginning to be felt, with national differences between member markets being ironed out. Although some differences remain, and certain national markets will offer domestic borrowers opportunities that the pan-European market might not, the greater homogeneity in Europe has encouraged corporates in eurozone member states to come to the market. The uniform interest rate has also made life easier for issuers and lead managers.
Watson feels debt markets are also benefiting from greater transparency on the part of issuers and book runners. Although some issuers may still hanker for the days of banks providing underwritten deals at a pre-agreed price and then selling these hard to investors, most agree that changes in new-issue procedures and greater price discovery are of benefit not just to investors but also to issuers.
Issuers are coming round to the idea that it is to their advantage to be more open about pricing and book-building. Watson hopes they will reap the benefits in terms of pricing over time. Transparency is certainly welcomed by underwriters. “In the past, with a sovereign, if you got it wrong then the ramifications were not disastrous,” argues Watson. “But with, a e5 billion [$4.5 billion] telco issue, the risk is far, far greater.” Getting the pricing wrong on such a deal could prove disastrous.
With funding requirements of corporates getting larger, the need for transparency to mollify investors is growing. So issuers are providing more disclosure to potential buyers. The need for ready access to capital results in greater credit analysis, disclosure of financial information, more roadshows and the like. Innovations such as ABN Amro’s E-Bookbuilder, which enables users to view the book-building process in real time, are also coming on stream. Mills says: “Greater transparency makes the investor much more comfortable with what he is being asked to buy.”
The range of credit products available to investors has also expanded. Credit derivatives are proving increasingly popular and are expected to continue to grow in volume and liquidity, enabling investors to take exposure to certain credits that they could not take in the form of cash bonds. By and large, issuers are very keen on this development. The more products available, the more the available investor base is diversified, providing issuers with a greater pool of capital to tap. Mark Bamford, managing director and head of fixed-income syndicate at Goldman Sachs, also argues that a broader foundation of investors reduces price sensitivity.
On the buy side, fund managers are looking for more credit product to diversify the exposure of end investors. The market is becoming more sophisticated and, Turnbull believes, may grow much larger still. “Increasing levels of liquidity can only help the rapid growth in credit derivatives,” says Turnbull. “If you are trying to move some significant money in credit derivatives, you have to be patient. But this is definitely an area with great potential for growth.”
In stark contrast to the debt scene, equity markets have been in retreat and the new issue market has been quiet. Since 2000, market conditions have changed radically. Globally, markets have been under increasing downward pressure as growth has continued to slow, forcing down corporate earnings and valuations. The days of vastly overinflated IPOs and equity issues on the back of nothing more that business plans and potential have come to an end. And none too soon, according to many in the game. Investors are much more cautious with what they are buying, and the solidity of any corporate looking to offer its stock publicly is of paramount importance.
Equity markets go back to basics
Rick Bartlett, co-head of the US equity capital markets group at Schroder Salomon Smith Barney, identifies the main theme of the year: “We have now returned to a much more traditional stock-pickers market, where the fundamentals matter again. Companies can still achieve a positive response to their new issues, but only if they have a track record, earnings visibility and an experienced management team. If they have these, then the market is still prepared to listen to what they have to offer.” For the first time in some years, active portfolio management is outperforming tracker funds, indicating that some thought has to go into investment strategies. This can only be a good thing. A market that looks like a complete no-brainer is certain to come unstuck eventually, as the second half of 2000 proved.
| Matthias Mosler | ||||||
Matthias Mosler, head of European equity capital markets at Merrill Lynch, remains optimistic. Acknowledging that in 2001 equity capital markets have been becalmed, with volume down some 50% on 2000, he feels it is wrong to overstate the problems. He points to the overall quality of the deals that have been done as evidence that the watershed of 2000 may turn out to be a blessing. The market, though smaller, is actually much healthier. Looking at the madness of the previous year, this is difficult to dispute. There is now a buyer’s market; something that may seem detrimental to issuers, who are no longer free to name their price then sit back as eager investors beat down the door. Rather, investors have the whip hand, often driving the pricing of a deal by spending more time investigating the intrinsic value of a corporation before throwing their hard-earned cash into a black hole, as many of the much-vaunted tech companies eventually turned out to be. Buyers are more sophisticated now, and issuers more realistic in their expectations.
Mosler also highlights the changing role of investment banks in these new conditions. Whereas previously the banks’ primary duty was to the issuer, more attention is being paid to investor services. The reputation of investment banks’ equity research teams has suffered enormous damage because of the technology boom and bust. Numerous lawsuits allege that analysts simply touted stocks of worthless companies that the investment banking arms of their firms were keen to take to market as IPOs. Now research departments are finding themselves forced to show greater independence and objectivity. The increasing number of sell recommendations is, Mosler claims, evidence of this. Though corporates may not be impressed by the idea of research departments slapping sell recommendations on their stocks, investment banks have to be seen to clean their act up to regain investors’ trust.
“Overall, the developments in the market in the last year have been very positive,” argues Mosler. “Things are much healthier now, with better-quality deals and also better after-market performance.” Mosler talks of the after-market performance of the issues that Merrill Lynch has handled. Merrill’s European deals so far this year have achieved overall returns of 8%.
The key to good performance in equity issues, according to Bartlett, is timing and sector rotation. “You need to track the flows of money between sectors very carefully, both institutionally and from a retail perspective,” he says. “The markets are open at different times for different sectors – consumers, financials, power, healthcare.” Bartlett sees this as the main reason for Schroder’s successful issue for Lucent Technologies, despite the general perception of despondency in the sector. “The deal was timed perfectly. We managed to get the right market conditions, when sentiment in the sector was improving.”
Getting the timing right can be tricky though. The outlook for slowing growth and declining corporate profits suggests difficult conditions will persist into next year. If so, debt markets will continue to be where the real action is, with the boundaries of corporate bond issues being pushed with, for example, extended maturity terms. The environment for bonds seems stable. There is still a lot of cash out there looking for a home and no sign of serious indigestion quite yet.
Capital raising and risk management
Euromoney polled treasurers and financial officers at corporates, financial institutions, supranational organizations and sovereign/state agencies. Respondents were asked to nominate banks providing the best service in capital raising and risk management.
We received 127 replies. Breakdown by type: corporates 32%, banks and other financial institutions 55%, sovereigns and state agencies 5%, supranationals 4%, other 4%. Breakdown by region: UK 15.7%, central and eastern Europe 3.1%, rest of Europe 55.1%, North America 11.8%, Asia 6.3 %, Latin America 4%, Africa 1.6%, Middle East 1.6%, Oceania 0.8%.
The results were compiled by awarding points on a sliding scale of 4:3:2. Banks’ votes are aggregated to include subsidiaries where appropriate.
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