Something for everyone?
If its second half maintains the pace set to date, 2017 may be a landmark year for bank and insurance capital issuance, with investors showing an appetite for a wide range of credits and willing to go down the credit curve in search of yield.
by Henrik Raber, Global Head, Capital Markets, Standard Chartered
Global Head, Capital Markets,
Financial Institutions have responded with a stream of opportunistic and strategic issues, taking advantage of conducive market conditions. In April, total global issuance volume stood at $11.7 billion, with Europe and Asia accounting for $10.4 billion, taking the year to date total to just over $75.5 billion.
The first sign of a sea-change in sentiment among investors was seen in January, when pan-Asian insurer FWD Group’s USD-denominated deal was greeted with very high levels of enthusiasm, showing that markets were on a risk-on mode. Since then, many banks have stepped forward, whether to meet specific needs or to take advantage of heightened demand.
In fact, even corporate perpetual issuance activity has been on a high with Asian issuers pricing even fixed-for-life perpetual transactions at very compelling rates. In 2016, supply and demand were tempered by the uncertainties caused by unexpected political developments, such as the UK’s Brexit vote to leave the European Union and the election of US President Donald Trump, and proposed changes to bank capital regulations in Europe. The dislocation in the bank capital markets saw a contagion effect across geographies in the asset class. Most of it settled over the course of the year with favourable regulatory outcomes, paving the way for a strong start to 2017.
Having now digested the key implications of these shifts, investors are also incentivised to pursue yield along the risk curve by an increase in their cash reserves resulting from a wave of redemptions this year. Meanwhile, the slow-but-steady turn in the US interest cycle is encouraging issuers to lock rates, but leading investors to redouble their search for higher yields, even if this means venturing down the credit curve.
Inevitably in a region as fragmented and diverse as Asia, local factors will always play a key role alongside more universal themes. Issuance by Chinese banks has been lapped up by onshore investors, which has now encouraged Chinese city commercial banks to access the market at compelling rates. Likewise, even the HK banks have accessed the tier 1 markets at regular intervals, albeit for smaller sizes versus the Chinese counterparts, more a reflection of the size of the banks.
The USD markets in Korea and India have been fairly restricted with limited issuances, primarily given healthy capital ratios and strong local markets for such issuances respectively. Likewise, with ASEAN banks, issuances in the USD markets have been restricted for a mix of the above reasons. That said, the benign market conditions may make it hard to resist the temptation to fix the roof while the sun shines, perhaps also acting in anticipation of loan growth.
The ‘elephant in the room’ is the introduction of IFRS 9, the new global standard for financial instruments accounting practices, including hedge accounting, replacing IAS 39. Formally effective from 2018, IFRS 9 is expected to impact the equity ratios of banks across the globe. As banks work toward the deadlines, regulators are divided on how, or whether, to spread the impact of IFRS 9. Some banks may issue in anticipation of needs relating to the imminent new rules. Alongside IFRS 9, Basel RWA reforms are in finalisation stage and could also be a key factor in inflation of RWAs across the globe, providing another stimulus to issuance.
Although balance sheet size is a significant factor in determining capital requirements, Asia (excl. China, Japan) is relatively sheltered from the toughest global demands. Only seven of the 30 G-SIBs (globally systematically important banks), have headquarters in Asia (four Chinese, three Japanese), but many more, including Standard Chartered, have an extensive strategic presence in the region.
G-SIBs are obliged to maintain a higher level of total loss-absorbing capital (TLAC), with senior debt in particular required to have loss-absorbing features, i.e. investors are bailed-in should the bank enter resolution, rather than taxpayers. Japanese banks have already issued TLAC-eligible debt, but Chinese banks will not need to grapple with the issue until the mid-2020s, due to a more lenient implementation timeline for emerging market banks. Nevertheless, Chinese banks are carefully monitoring differences between the requirements of Europe’s domestic regulators, with an eye on their own future regulatory obligations and thus issuance plans.
Beyond G-SIBs, differences across regulators are an important factor in determining price and appetite in the bank capital market, because Basel prescribes only minimum requirements, enabling local jurisdictions to specify additional measures. Regulators can require their banks to hold higher levels of capital than Basel’s base level, but two other key distinctions can play a big role in pricing loss-absorbing AT1 instruments. First, countries including India and China impose a numerical trigger (a percentage of common equity tier 1 capital) for loss-absorption of additional tier 1 instruments. Second, countries vary in the role regulators can play in managing or determining the non-viability of issuers.
While Hong Kong, Singapore, Philippines and Malaysia allow regulators discretion to trigger loss-absorption of bonds due to non-viability of issuer, the more investor-friendly South Korean and Japanese jurisdictions permit pre-emptive systemic support to keep banks solvent and stave off loss-absorption on these instruments.
The tier 1 asset class has been one of the best performing this year. When analysing the potential returns from the bank capital market, many conscientious investors are sifting carefully through the regulatory nuances across Asian jurisdictions in order to reach their individual conclusions about the attractiveness of issues. Nevertheless, as many sophisticated global investors take a highly technical approach to pricing bank capital issues, alternative sources of demand that focus more on yield priorities, e.g. retail investors and private banks, may allow issuers to drive down pricing below that which a technical analysis might suggest. In the medium term, it’s all to play for. To that extent, it might be argued that the bank capital issuance has something to offer everyone.
Henrik Raber is the Global Head of Capital Markets at Standard Chartered Bank. He joined the Bank in July 2009 as Regional Head of Capital Markets for Europe, Africa and Americas, and took on the role of Global Head of Debt Capital Markets in March 2010 before assuming his current role in mid-August 2014. Prior to Standard Chartered, Mr Raber was with UBS Investment Bank, where he headed European Credit Flow Sales and Trading, which encompassed Investment Grade, High Yield and Loans. Before working at UBS, Mr Raber was with Lehman Brothers for eight years in Fixed Income credit trading and capital markets.
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