DESPITE A FLURRY of new corporate bond issues last month, debt capital markets teams haven’t exactly been run off their feet since the middle of the year. It’s been tough to get stand-alone corporate deals done. And bankers have had a lot more time to get in front of corporate clients and pitch ideas about other funding options.
In the light of extreme volatility in public bond markets, corporates have compelling reasons to fund themselves through EMTNs. Most cannot be choosy and need to be able to take advantage of pockets of investor demand, however small or large, opportunistically. They cannot hang around for the documentation to be completed to do stand-alone public issues.
There are some bright spots. Money-market funds looking to pick up yield have bolstered demand for public MTNs of one to two years’ maturity. Yet overall corporate deal flow in EMTNs is well down on last year and was particularly low in the six months after June. So competition to present interesting deals is increasing.
Organizing structured MTNs for financial institutions is a good revenue earner for banks but investors have little or no appetite for taking credit and structuring risk from corporate issuers, particularly when more and more are being downgraded. There has been little appetite for testing the market with syndicated deals either, so banks are pouncing on any opportunity to place targeted MTNs. “There has been more reverse enquiry for corporates but I think that’s being very competitively served by the banks because there is not that much around in terms of alternatives,” says Andrew Devenport, managing director of MTNs and private placements at Goldman Sachs.
BG Energy is a good example of a corporate that has successfully funded itself through EMTNs, riding out the worst of recent volatility in the credit markets. Since setting up a programme through HSBC in March it has done 14 deals off it and raised $837 million in five currencies in maturities ranging from six months to 10 years. Thirteen have been private deals generated from reverse enquiries.
“Corporates now want to use EMTNs as an integral part of their funding strategy. They use them to extend maturities, to fill in maturity buckets and to refinance existing bonds maturing. They are happier to look at any kind of enquiry that appears interesting in any currency and size,” says Alex Haidas, vice-president and head of structured and private MTNs at JPMorgan in London. “They also want to be more involved in their funding strategy and are calling us up far more than they used to.”
As Michael Ridley, head of investment-grade syndicate at JPMorgan in London, says, they haven’t got much choice. “Issuers are not necessarily hung on doing e500 million public deals and are actually more realistic in their expectations from the market. If they see e100 million or e200 million at a realistic level they will take it because it is an uncertain world and they may not be able to have access to that funding in the future.”
Likewise, investors are happy to fill in a gap in the maturity or currency profile of their portfolios using this method. “Private MTNs offer the diversification of funding for investors and issuers that the big public deals do not offer,” says Fergus Kiely, head of EMTNs at HSBC in London. “For example, investors may say we like the name BG Energy but we want exposure in yen. Would you do a stand-alone deal for ¥1 billion? No. Would you do it as part of an MTN deal? Yes.”
Thirst for liquidity The trouble is that many investors want liquidity, particularly when buying into companies rated single-A or below. “Since June, investors have preferred sub single-As with some sort of size to the transaction,” says Kiely. “They want a percentage of a bigger issue because of the perceived liquidity in the secondary market.”
A growing part of the market, away from the single-lead reverse enquiry transactions, is for banks to aggregate small pockets of demand from a large number of investors to build much larger private deals for corporates. Deutsche Telekom has been one of the top 10 issuers of private corporate EMTNs this year, along with such names as RWE and General Electric, and has had a lot of success in this area.
“We’ve seen transactions for Deutsche Telekom, which started from a e5 million reverse enquiry lead expand into a short-dated e500 million MTN deal, growing through word of mouth through the sales guys. They could have done more,” says Kiely. Deutsche Telekom’s example shows that corporates can raise significant funds through this method. “DT has very aggressively used several of these $500 million private deals to raise $3 billion to $4 billion in the market this year,” says Kiely.
Haidas at JPMorgan says a relatively small group of corporates regularly issues reverse-enquiry EMTNs. “This year, around 100 corporate EMTN issuers have done reverse enquiry deals, of which 20 are relatively well staffed to look at these sorts of enquiries. These are the ones that will do 15 to 20 deals a year of pure private placements. Some will even do over 50.”
The corporates that do reverse enquiry deals regularly may be limited in number because securing these sorts of funding levels through private reverse enquiries eats up management time. “It’s always the case that a corporate will have fewer members of staff doing this business than a financial institution. Corporates are unable to handle 20 enquiries a day of $3 million pieces, which some financial institutions are used to,” says Haidas. He adds that the most successful corporates are the ones that have a dedicated person in their funding group looking at MTN enquiry.
The upside is that those equipped to deal with reverse-enquiry approaches can achieve savings if they are tapping enquiries from investors prepared to pay a premium for a currency or maturity they haven’t got and there’s no public deal on offer. “If you are well staffed to cope with MTN enquiries, it can make a difference of 2bp to 3bp to your funding,” says Kiely.
There has been a flight to quality in the private EMTN market just as there has been in the public market. Supranationals, agencies and financial institutions have benefited the most from this (see chart 1). The vast majority of corporate issuance this year in the EMTN market as a whole has been done by double-A and single-A rated companies (see chart 2).
Fewer banks are buying deals from corporates that they can’t sell in order to bolster league table positions. “Senior managers are saying we care more about having a profitable business then being high in the league tables,” says Devenport. “Banks are not so keen to take positions in the market, but when there is a genuine reverse enquiry they are prepared to bridge those last few basis points.”
One banker says there is so much competition in the market that nine banks were bidding to lead manage a recent e150 million public EMTN deal and that the winning bank was forced to offer the client a few basis points on the deal to establish a relationship. The banker stoically defends the practice. “Which is the more stupid thing to do, offering a few basis points to lead manage a e200 million MTN issue or lending to a corporate at 15bp and hedging it at 80bp in the CDS market?”
Another result of the decline in syndicated execution in the past few months is that banks are increasingly looking at where they can create cross-over business between their MTN and syndicate desks.
“There are more overlaps between syndicate and MTN desks than ever before,” says Devenport. “A corporate might not want the public market exposure and want to do a private MTN deal. An investor that makes a reverse enquiry to the MTN desk might want to have the feel of a public bond with more investors involved, but it’s quite possible to find a solution that delivers on both their requirements.”
JPMorgan is one bank that employs people in London to sit between the MTN and syndicate desks to channel approaches by investors to the MTN desk that could grow into a public bond and vice versa. This happened with United Utilities’ £150 million ($237 million) seven-year public bond priced at the beginning of October, which started off life as a lead order to the MTN desk, one of several such deals done by the bank in the past few months.
Ridley says the United Utilities deal “started with EMTN desk looking at United Utilities’ posted MTN targets and finding an initial lead order for a small private placement from the MTN programme. We took this lead from the EMTN desk and built into a £150 million sole lead-managed public issue at a time when nothing else was going on in the market.”
Ridley says the company had no desire to launch a benchmark public issue or solicit funding and was just posting levels and maturities at which MTN funding was attractive. “We had to price it at the level of the lead order, which met the issuer’s targets. They didn’t have any particular need for wholesale funding but they said that if you can price this at the level of our posted targets, we’ll do a reasonable volume,” he says.
A rapid transformation The deal grew from a lead order in the morning to be launched in the afternoon almost fully sold to institutions and retail stockbrokers with private-client interest. Ridley says there was no way in October’s volatile public bond market that the bank would have underwritten this and launched it on an unsuspecting market. “We could just go to other investors and say we’ve got a substantial lead here, it’s at the following level and there is no flexibility on the level, do you want part of it?”
But some banks have got into trouble with these reverse enquiry-led private-to-public types of deals. In the words of one head of debt capital markets, “Some banks have got so restless with nothing to do that they have gone to the corporate saying: ‘we’ve lined up reverse enquiry interest from this investor here and we can grow this into a public deal.’ Then it is put on the screen, some investors pull out and the bank either has to unload it at much wider spreads or has to pull it. This is no good for them and no good for the issuer either.”
Another banker explains that if you don’t know your investor base well, it doesn’t take much to demolish a deal entirely. “They might have one investor who will take $50 million on a private basis, so they say to him: ‘actually we’ve got another investor who might want some of this, do you mind if it’s a $100 million trade?’ The second investor says I’ll take $50 million but only if it’s a $200 million deal, so then they go to the issuer and say ‘we’ve got two lead orders and it needs to be a $200 million trade, we’ll underwrite the rest.’ They launch it, can’t sell it, downsize it to $100 million, suddenly find that the second investor says ‘you told me it was $200 million, I’m pulling my order’. So you end up with $100 million that is too small to be liquid in the market, $50 million is sold to one investor who is going to lock it away for ever and you are left with $50 million. Either you let the spread widen dramatically to sell it or increase it again, taking more risk but hopefully taking it to a level where they can sell it at more attractive spreads because it was a larger deal.”
The latter is a dangerous game. Bankers say that corporates still have to be more realistic about the pricing they can achieve in the EMTN market if they intend to issue at the moment but banks also have to be realistic about how far they manufacture large deals for corporates from private, single-investor demand. Constructing deals block by block is fine as long as you accept that if one block falls away the whole lot can come tumbling down.n
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| 1: market share by issuer type2: EMTN issuers by rating |
