Latin American perpetual bonds surpass expectations

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By:
Sudip Roy
Published on:

A bull-market product that would crash and burn in the event of a credit crisis: that was the view that many critics held of perpetual bonds – a fundraising instrument that has been all the rage in the region in recent years.

But contrary to popular belief, many of these securities are more than holding their own amid the turbulence in the global capital markets. "They have actually performed relatively well," says an investment banker. Notes issued by Brazilian steel companies Gerdau and CSN, plastics manufacturer Braskem and investment group GP are all proving a hit with investors and are trading at par or above. Others, such as those perpetual bonds issued by Brazilian sugar and alcohol manufacturer Cosan and budget airline Gol are faring less well but that is more a reflection of problems in their respective industries than with the structure itself.

Perpetual bonds proved very popular in Latin America between 2004 and the beginning of this year. State-owned Mexican oil company Pemex issued the first such instrument out of the region in 2004 with a $1.75 billion note – still by far the biggest Latin American perpetual bond. Since then, several companies, mostly in Brazil, have issued perpetuals, raising more than $2.5 billion in the process.

Dumber trades

The bonds were targeted mostly at Asian retail investors, usually through private banks that buy the debt directly. These Asian investors are mostly successful Chinese entrepreneurs based in Hong Kong and Singapore, who were traditionally equity investors but were sick of seeing their stock portfolios go nowhere. The generous coupons that were often on offer were enough to entice them even if there were doubts about the suitability of the product to Asian retail investors. One emerging markets fund manager said at the time: "They are among the dumber trades I have seen."

But the subsequent performance of the vast majority of these bonds is a reflection of how far Latin America has progressed in recent years. So far the region has weathered the credit storm. Brazil remains on course to receive an investment-grade rating next year. Little wonder the buyers of Latin perpetuals want to hold on to them.

"If [the underlying corporate borrower] is not in a sector receiving negative press, why would you sell, given the high coupon?" asks an investment banker. "After all, these bonds are not about convexity or duration."

As many of these bonds still have at least another three years to go before the issuer faces the decision of whether to redeem them or not, the chances are that, as long as a financial crisis does not hit the region, Latin perpetuals will continue to perform.