High-yield bonds from Chinese issuers received a mixed reception last week when KWG Property and China Oriental, a steel manufacturing company, both came to market. Despite the bonds pricing within 12 hours of each other, the outcome differed significantly both in terms of demand for the new issues and aftermarket performance.
Muted interest for KWG's $250 million seven-year deal confirmed that the market is beginning to wane for property credits and the bonds struggled to perform. Meanwhile, China Oriental benefitted from the fact that it is not a property company and its $550 million five-year deal ended four times covered and traded up in the secondary market.
In KWG’s defence, the property sector has taken a fairly big beating since Country Garden unleashed its second high-yield bond in 2010 at the beginning of this month, following a $550 million bond in April.
Since Country Garden priced its $400 million five-year bond, China's high-yield property sector has traded relatively flat and a number of other developers that were looking to print this month have held off. One example is Renhe Commercial Holdings, which went on the road on August 4 but has postponed the launch of a deal due to the weakening performance of the sector.
But KWG Property went ahead with its offering.
Aside from the impact that Country Garden was having on the sector and a weakening market backdrop, the developer was also battling the bi-polar spectrum of existing China property credits in the market. With KWG being a middle of the pack player -- the bonds were rated Ba1 by Moody’s and a B+ by Standard and Poor’s -- arrangers and investors were fighting to see eye-to-eye on the comparables for the trade.
“Plenty of investors that saw the B-rated credit and mid-sized company likened it to Kaisa Group [which priced a $350 million bond in April],” explained one source close to the deal. But given that the Kaisa bonds were trading at a yield of around 14% at the time of pricing, Morgan Stanley and Standard Chartered, who were the lead arrangers, didn't view this as a decent comparable.
In terms of credit-quality, the arrangers instead tried to place it closer towards Shimao Property Holdings' seven-year deal, Agile Property Holdings' 2017 bonds and Yanlord Land’s recent 2017 issue. Some investors shared this view, which put fair value at about 200bp wider than Yanlord or Shimao, or 100bp wider than Country Garden’s new bonds.
KWG and its joint lead managers set out to price with a yield in the area of 12%. Taking into account the demand for a new issue premium by investors this was later adjusted to a guidance of 12.5%. and that's also where the bonds priced on Thursday morning. The deal was re-offered at par for a coupon at the same level. The maturity date was set to August 18, 2017.
On their first day of trading (August 12), the cash price of the KWG bonds dropped to a low of 98 before stabilising at 99.5 by the Asian close. Overall, Chinese property bonds were down by between two and 2.75 points over the course of the day. However, some bankers said the buyers of the bonds were not losing faith in the transaction.
“KWG traded down on the open not because bond holders were selling them but because other investment banks were trying to short the deal,” said one banker.
The sleepy performance in the sector continued on Friday with the sector trading down between 0.75 and one point. Traders saw buyers come back in, which helped the price snap back quickly towards par. KWG remained down a quarter of a point from the re-offer, still trading around 99.75 at the end of Friday's session.
The bond was 1.6 times subscribed, with the total demand amounting to $400 million from just over 50 accounts.
With 83% of the allocation going to Asia, one observer suspected that a big driver of the demand may have been from so called "friends and family" participating in the trade. The fact that 47% of the buyers were private banks, gives further fuel to this suspicion.
Fund managers bought 28% of the bonds, corporate investors 16% and banks 9%. Outside Asia, European investors took 9% of the deal and US investors 8%.
While markets are expected to remain volatile until the end of the year, it is likely that good quality deals will still get done at the right price. With a smorgasbord of choice for investors, it will be increasingly difficult for the marginal credits to price and perform -- or to come to market at all.
This is particularly true for the Chinese high-yield sector with the abundance of choice this year from property issuers. Right now it seems the gloss for this sort of paper has lost its lustre and investors are keen to buy something else from China.
This was certainly reflected in the reception that China Oriental -- rated Ba1 by Moody’s and BB+ by Fitch -- received when it priced last Wednesday (August 11). The Chinese steel manufacturer issued a text book Reg-S/144A $550 million deal paying an 8% fixed-rate coupon. The notes were issued at par to yield 8% and will mature on August 18, 2015. Deutsche Bank and ING were joint lead managers.
From the investor roadshow to pricing, the deal ran smoothly and as the first China credit in this sector to price this year, the joint lead managers looked to Arcelor Mittal’s 2015 bonds and Vedanta's 2014 bonds to determine fair value for the credit.
Compared to other recent high-yield deals, China Oriental offered a rarity value that investors were keen to buy into. Despite pricing within hours of KWG it was able to secure an investor base that was much more diverse and more evenly distributed across the regions. The steel maker secured an orderbook of $2.3 billion, representing a subscription ratio of more than four times, and attracted orders from more than 150 accounts.
Another contrast to the KWG trade was the investor types. China Oriental had a greater representation of institutional investors, particularly fund managers who walking away with 68% of the notes. Retail investors took 14%, banks bought 10% and the last 8% of the deal was sold to pension and insurance funds.
Asian investors received 42% of the bonds, while investors in Europe and the US took 29% each.
China Oriental was last seen trading at 101.5 on Friday, indicating that investors are keen to latch on to a new kind of credit from the China high-yield sector.
“With the healthy supply we’ve seen in the markets over the year, what we need to see is other sectors coming in order to smooth out the whole China profile,” said one source.
In addition, borrowers in the wings can expect investors to continue go for credits that, “give a good story at the right price,” as one banker put it.