It is a year which has already confounded expectations for the prospects of the Asian G3 bond market.
The widely-held belief that US interest rates would rise and US dollar bond issuance would decline is starting to get turned on its head, leading economists to revise their forecasts and borrowers to adjust their funding plans.
As Asia enters the year of the monkey, FinanceAsia canvassed a selection of the region's DCM syndicate bankers for their views on the uncertain months ahead.
Here in part one, they each discuss the impact global volatility has been having on primary and secondary markets, concluding that while regional investors have continued to underpin primary market issuance, many have shied away from the less liquid secondary market.
In part two they each take a wider look at issuance patterns across the region and the improvements being made to enhance syndicate good practise as more and more banks are added to term sheets.
The bankers who took part are:
- Devesh Ashra, head of Asia debt syndicate at Bank of America Merrill Lynch
- Duncan Phillips, head of Asia Pacific debt syndicate at Citi
- Jacob Gearhart, head of Asia Pacific debt syndicate and origination at Deutsche Bank
- Carla Goudge, head of Asia Pacific debt syndicate HSBC
- Ashish Malhotra, global head of bond syndicate Standard Chartered
January and February have been incredibly volatile months for the financial markets. How has that impacted Asian G3 issuance?
Ashish Malhotra: Actually I think Asian DCM has come through the first couple of months comparatively ok when you look at the weakening backdrop in China and broader emerging markets generally.
A couple of trends stand out. Firstly, in January 2016 there were 20% fewer deals than January 2015, but deal volumes were down by half. So issuers were still coming to market but with smaller transaction sizes.
This was partly down to investors’ behaviour. Where previously a fund manager might have put in for a $20 million ticket size, they’re now asking for perhaps $5 million.
If you analyse similar issuers that came to market in January 2015 and January 2016 you’ll see the same number of investors in both transactions, but a smaller overall order book for the more recent of the two deals.
That has been a limiting factor on deal sizes. It’s also led to new issue premiums being a little fatter than we’ve seen in the recent past.
Jacob Gearhart: Yes I agree. Asia G3 coped in January by reducing supply, which allowed the impact on secondary spreads to be more muted.
It’s self-correcting to some extent, but if you look at the Markit indices you’ll see that investment grade spreads are at least 30bp wider than they were at the beginning of the year. High yield, which has arguably been better behaved considering the market backdrop, is at least 50bp wider.
Devesh Ashra: Asian investment grade spreads have held up well, with January’s issuance underscoring technicals. Two key factors have been support from regional investors and a rotation out of local currency assets into US dollars.
Carla Goudge: It is clear January and February were challenging months in the global markets including Asian primary bonds. But even within this choppy period there were some quite constructive days when investors were open to adding risk for the right names.
We’ve been able to take advantage of these more positive windows.
Duncan Phillips: Pre Chinese New Year, Asian issuance was quite light and generally speaking most transactions went well. I think local investors are very liquid at this point and a number of them – especially Chinese bank treasuries – have supported local issuance, in turn insulating the supply from volatility elsewhere.
Not everything has gone well, though. But it’s usually concerns over deal pricing that causes problems as opposed to a general risk-off sentiment.
What impact has the volatility had on secondary markets?
Gearhart: A lot of investors have stayed on the sidelines in the secondary market because of the volatility, whether that’s because of FX moves or the rapid change in the price of oil.
Phillips: I think the drivers of market volatility have changed. Last year it was primarily China, but in recent weeks it has transitioned to become a global growth issue with more focus on the US, Europe and Japan.
A key theme in bond markets is the lower left quadrant of the rate hike possibilities grid, as implied by Fed Funds futures. These point to ever-higher chances of there being no change to rates this year, in contrast to most economists’ forecasts.
The prospect of a flatter yield curve has had a negative impact on bond spreads for global financial institutions and that may influence Asian bank spreads too. Local Additional Tier 1 (AT1) securities have historically traded at very tight levels versus international peers and they’ve recently been targeted by short sellers.
Malhotra: Secondary market activity has been more muted than the primary market over the past couple of months. If an investor wants to buy into a sector or a particular credit they’re often doing it through the primary market where they can benefit from a new issue premium and greater liquidity.
What’s your immediate post CNY outlook?
Phillips: Unfortunately I don’t think conditions are going to be hugely different to what they were before Chinese New Year.
Issuance trailed off quite meaningfully into the holiday period and although a number of issuers will be refocusing on their capital markets activities, I suspect it will be a few weeks before we really start to see volumes rise again.
Gearhart: Over the short-term I think issuance will be reasonably subdued. This level of volatility and normal volumes just do not go hand in hand.
Goudge: The themes we saw emerge in January are likely to continue playing out in the near-term. Markets will remain open for strong issuers with constructive credit stories though.
Malhotra: I think we’re going to see more of the same over the near-term. I don’t see a major turnaround from the factors I mentioned in question one.
There are a few variables, which could alter the current mood, however, including the ECB and Fed meetings in March, plus any major change in oil prices.
What’s your medium-term forecast for the rest of the year?
Goudge: Looking further ahead, it’s worth noting that as redemptions come through and if issuance remains relatively lower than previous years then this may create a shortage of investable assets for investors. This could lead to strong technical demand for new transactions, which savvy issuers can take advantage of.
We also expect to see the private placement market remaining active, providing another source of funding away from the, sometimes, choppy public markets.
Malhotra: Yes I agree this could play in the market’s favour. High redemptions across non-Japan Asia mean the supply/demand dynamic could well be tilted towards demand. Investors are also sitting on a lot of cash and it’s expensive for them to maintain these high levels. They need to put money to work.
Having said all that, there is huge uncertainty about global growth and commodity prices and that could still act as a big factor overhanging the market.
Phillips: I confess I’m a little more bearish this year. My personal feeling is that issuance volumes will be lower than last year when the Asian G3 market raised $174 million, but above 2013 when $135 million was raised.
Gearhart: Deutsche Bank was forecasting $150 billion in new issuance volume for 2016. That's clearly at risk given the current volatility.
But we could be up and running again if we get expanded asset purchases from the ECB, a more dovish Fed and some fiscal stimulus in China. To be fair, we’d probably only need to see two of those three to have a reasonable first half.
What direction do you think US Treasury rates are heading in and how do you think the current Treasury market backdrop is affecting borrower’s issuance decisions?
Malhotra: Had you asked me in December whether 10-year US Treasury rates would drop 40bp over the course of January, I would have said no way. And yet here we are with US rates below 2%.
They could stay at that level over the short-term. Our house view is a potential rate cut towards the end of the year.
The longer end is particularly interesting. If I was a corporate treasurer looking at my capital structure I’d have to be thinking that sub 2% for 10-years is a very attractive level.
Yes, credit spreads are now higher and borrowers are having to pay a bigger new issue premium, but if you combine both these two factors with lower US Treasury rates then borrowers are probably paying the same as they were a few months ago in terms of absolute cost.
Phillips: Like most other banks, Citi’s view at the beginning of the year was two to three hikes during 2016. But recent market events may cause some to take a more dovish stance.
In terms of funding decisions, I think the general thought process by Asia borrowers last year was a preference to issue in US dollars sooner rather than later and then possibly focus on domestic markets where appropriate. This was especially the case in China where rates have fallen meaningfully.
But if US dollar rates stay lower for longer this year then international markets should remain marginally more attractive for many.
Gearhart: It’s been all one-way so far this year. I’d like to think we’ve bottomed, but if the negativity intensifies 10-year Treasuries could trade down to 1.5%. If it subsides, they could trade up to 2.25%.
These movements are pretty amazing when you consider the central bank and sovereign wealth fund liquidations. At this range I’m not sure it would be that important to a lot of issuers other than as a sentiment indicator.
At 1.5% it will be hard to get deals done without much wider spreads.
Goudge: HSBC’s house view is that 10-year US Treasuries will be at 1.5% at the end of 2016. This non-consensus call has so far proved spot on given that 10-year Treasuries have fallen from 2.3% at the start of the year to 1.76% today, close to a 12-month low.
This move lower makes the bond market very attractive for fixed rate borrowers who are more than recouping the spread widening we’ve seen by locking in low all-in yields.