Euroweek debt capital markets, October 21 2011

Euroweek debt capital markets, October 21 2011

KNOC

Korea National Oil Corp (KNOC) launched a US$1 billion five-year bond early Thursday morning (Asia time), which some billed as a market re-opening deal, and others as an opportunistic use of a brief window.

This was the first dollar benchmark from Asia for more than a month, since fellow Korean borrower Kexim raised US$1 billion. Its reception was closely watched, and considered successful, though some in the market suggested the issuer may have overpaid.

The deal, led by Barclays Capital, Bank of America Merrill Lynch, HSBC, KDB and Royal Bank of Scotland as joint bookrunners, was about eight times subscribed during a 12-hour bookbuild with bids from more than 400 accounts. It priced at 310 basis points over Treasuries, which was inside initial price guidance of 330bp over; yield was 4.137%, based on a 4% coupon and a re-offer price of 99.387.

KNOC is a powerful, closely-watched and state-backed institution, but not a truly top-tier borrower in terms of rating; it is rated A1 by Moody’s and A by Standard & Poor’s. Nevertheless, any state-backed investment grade name borrowing in size is an influential trade, particularly since investors tend to see KNOC as exposure to the Korean state in general. “With the strong credit profile and strategic importance to Korea and the Korean economy, KNOC was able to successfully access the US$ market while a number of other Asian issuers in the pipeline remain sidelined,” said someone close to the deal.

Rival bankers were pleased to see a deal of this size get away, though there was some carping about whether the initial price guidance was wider than it needed to be, and opinions varied on the true significance of the deal.

“This is a market re-opening trade for Asia,” said someone close to the deal. “It was the first trade in benchmark size in hard currency for about six weeks and it has provided a lot of confidence to the market. It left a positive taste in everyone’s mouth.” Another added: “The transaction marks the reopening of the Asia ex-Japan US$ public primary market.” One bookrunner said that there was “certainly a good number of issuers looking at the markets” in light of the deal’s success, while noting that the timing was key. “Today’s market was on the back foot again,” he said, speaking on Thursday afternoon, Asia time. “The transaction would not have worked in the same shape or form today.”

But others were not so sure about its long-term impact. “It is good to see this get away, but the problem is you still don’t have any certainty about what is going to happen next in Europe, and one bad headline can destroy any confidence in the market,” said a banker. Another said: “I wouldn’t go so far as to say that this reopens the market for everybody.” Bankers both on and off the deal agreed that the outcome of Sunday’s summit on the eurozone would be key to subsequent issues.

On pricing, KNOC’s existing bonds due 2015 were trading at around 270 basis points when the deal priced, meaning that the initial guidance in particular – if not the final price – constituted a considerable new issue premium. “That initial guidance was a new issue premium of 60 basis points – that’s very, very wide,” said one banker. “That’s a no-brainer for investors. A book of $8 billion for $1 billion of issuance is insane. So could they have got away with starting out at a tighter price?” The deal tightened in the aftermarket and was trading at around 298 bp over Treasuries, a tightening of 12 points, on Thursday afternoon.

Those close to the deal defended the pricing, noting that a tightening of 20 basis points from guidance was impressive given the market conditions. “The initial pricing point was partially based on investor feedback, and partly based on what we have seen in the markets globally in terms of new issue premiums, in the 144a space and global emerging markets as well,” said someone close to the deal.

The deal sold chiefly to Asia (44%) and the USA (40%), with European investors more subdued (16%). More than half the book went to fund managers (57%), with the remainder being taken up by insurers (18%), banks (14%), retail (6%) and central banks and other public institutions (5%). The senior unsecured deal carries a put at par if at any stage the Korean government’s level of ownership drops below 51% of the company. The transaction formed part of KNOC’s global MTN programme, recently expanded from US$4 billion to US$6 billion. It followed a non-deal roadshow in September that took in global fixed income investors in Asia, Europe, the Middle East and the US.

Investors continue to show interest in commodity-related businesses, seeing them as resilient to market shocks; last week Standard & Poor’s issued a note saying that “the recent downturn in crude prices may be discomforting for Asia-Pacific oil and gas companies, but it’s unlikely to affect credit ratings.” Many oil and gas companies achieved solid earnings in the first half of the year, the report said, creating a buffer if cash flows decline over the next 12 months.

S$

The Singapore dollar bond market enjoyed a flurry of activity this week, with new or tap issues from Wharf and Cheung Kong (Holdings), and a third issue underway from Standard Chartered. The deals reflect the relative stability of the Singapore dollar as a funding market despite global volatility.

The Cheung Kong deal, one of two from Hong Kong heavyweights during the week, was a tap of an earlier S$500 million perpetual issue launched in September. The tap raised a further S$230 million through DBS and JP Morgan, who were also joint bookrunners on the original deal.

The tap attracted S$300 million in a one-day accelerated book-build. In keeping with many Singapore issues, the largest part of the buyer base was private banks, accounting for 75% of the allocation, followed by asset managers with 11%, insurers 10% and banks 4%. By region, it was overwhelmingly locally placed, with 92% staying in Singapore.

Bankers are turning to the Singapore dollar as its safe haven status and a steady investor base protects it from turmoil in the US dollar markets. “After the initial Cheung Kong deal [in September] there were a number of negative events out of Europe, and the credit market by and large shut down for new issues,” said someone close to the deal. “But I would say the Sing dollar perpetual from Cheung Kong was one of the securities that held up reasonably well. Since late last week the market has staged a rally in credit, and the perpetual is back up to par. So it was very opportunistic, from the borrower’s perspective, to see market stability and to go back to the bond again.”

Earlier in the week fellow Hong Kong group Wharf Holdings had priced a S$250 million issue of seven-year bonds, increased from an initial target of just S$100 million after the books were three times covered. The deal, also led by DBS, paid a coupon of 4.3%, representing the low end of guidance. This deal was even more heavily dominated by Singapore buyers than Cheung Kong, selling 96% locally, although in this deal banks were the biggest part of the book at 41%, followed by 27% insurers, 20% private banks and 12% asset managers.

And on Thursday, Standard Chartered was in the market for a 10-year non-call five Singapore dollar benchmark, although the size of the bond was unclear as Euroweek went to press. Guidance was around 4.25%. Investors said they considered this as equivalent to a 35 basis point new issue premium versus fair value, and therefore attractive.

Why the activity? “Between the major markets in the Asia credit space – primarily the Singapore dollar, CNH and US dollar – the markets that are functional are the CNH and the Sing dollar,” says one banker. “There, you are still seeing trades getting done at the right price. It’s a contained market, anchored by strong local bids from private banks or insurance money; there are not many investors but it’s resilient.”

Dim sum

The CNH “dim sum” bond market sprung back into life this week after a three week hiatus. A RMB3 billion two-tranche raising by China National Petroleum Corp (CNPC), which owns PetroChina, was the most significant deal and is likely to herald a round of new issues.

The CNPC deal was made up of a RMB2.5 billion two-year tranche and a RMB500 million three-year. The two-year had a 2.55% coupon to yield 2.6%, and the three year 2.95% to yield 3%. HSBC and Bank of China were joint global coordinators, joined by Deutsche and ICBC as joint bookrunners.

CNPC was seen as an ideal name to reopen the market after a brief hiatus; it is rated Aa3/AA-/AA- and is the highest-rated Chinese corporate to have sold RMB-denominated bonds in Hong Kong. “It’s viewed very much as the next best thing to the sovereign,” said someone close to the deal. “It’s about as good a name as you’re going to get in Asia to start the market off again.”

The market had become slightly becalmed in previous weeks following a flurry of issuance from names including BP, Tesco, Air Liquide and BSH Bosch und Siemens. “At that point, the CNH market suffered what G3 markets had been suffering,” says one banker. “You had had a couple of weeks where the CNH market was working when other markets were not; at that point investors said ‘enough’s enough’ and took a big step back.” The CNPC deal had to move quickly when markets improved: a decision was made on Monday, then two roadshow teams presented simultaneously on Tuesday, one each in Singapore and Hong Kong. Work began on Wednesday with a 6.30am call with the issuer before bookbuilding began, concluding late on Wednesday night following lengthy debate on allocations. The deal was almost three times covered and received almost 100 orders.

While the deal was a success, those close to it notice that a change has taken place in investor sentiment towards CNH bonds, partly because of changed expectations about the likely performance of the currency itself. “Investors were previously saying they don’t mind a very low coupon and bond yield because they were expecting 3, 4, 5% of currency appreciation. That was a generally accepted view of the markets in the first half of the year,” said one banker. “It’s not the case now.” Alongside that, investors have become more cautious. “It’s a good thing for the market, because it means investors are starting to look at credits and comparing one against another: they like this name at this level, don’t like that name at that level. Earlier in the year, it was: I’ve got loads of CNH I need to put to work so let’s buy loads of credit bonds, because something is better than nothing.”

The CNPC deal followed a landmark dim sum sukuk from Khazanah Nasional, covered in Euroweek’s daily coverage on October 14; it raised RMB500 million in a three-year deal. The question now is what other issues will follow, since many bookrunners report a full pipeline representing a variety of credit quality.

First impressions are that strong and familiar names will appear soonest. For example, approvals have been passed for up to RMB40 billion of RMB-denominated subordinated debt by China Construction Bank, although clearly not all of that would be expected to appear in the dim sum markets; and Baosteel Group has received approval to issue up to RMB6.5 billion of dim sum bonds. But bankers suggest a range of potential issuers. “Will the next issues just be the good quality names? The first one or two, maybe, but there’s quite a lot in the pipeline at the lower end of investment grade,” says one DCM banker.

Another adds: “I don’t think this is a fully reopened market. I don’t think the floodgates are open and the whole pipeline will pop out in the next two to three weeks. But having had a correction, and with levels readjusted, investors do have money they are willing to put to work.”

Covered bonds
The long-awaited Australian covered bonds market has reached the starting line. Key legislation is now in place, with two of the country’s biggest banks preparing to hit the road to market landmark new issues.

Last week the Australian Banking Act Amendment, the enabling legislation for covered bond issuance from Australian deposit-taking institutions (ADIs), passed through parliament, receiving Royal Assent earlier this week. This concludes the legal side of the process. “The legislative approvals have now happened,” says Pierre Katerdjian, global head of credit markets at Westpac. “It basically means that Australian ADIs are able to issue covered bonds.”

That is not quite the whole picture, however. “The other leg is the prudential piece: APRA [the Australian Prudential Regulatory Authority, Australia’s banking regulator] has to amend APS 120, to create a framework for banks to issue,” says Katerdjian. “There will probably be a draft out in mid-November with a formal release in the new year.” But the fact that APRA’s prudential standards are not yet out is apparently not enough to stop issues beginning. “What APRA has said to the ADIs is basically: you can issue, but be mindful that we’re still finalizing the new APS rules.”

Banks have taken this to heart, and National Australia Bank and Commonwealth Bank of Australia are already preparing to market new issues. Both are expected to travel to the US and Europe, raising the prospect that they may make their maiden issues with tranches in both euros and dollars. NAB is understood to have arranged meetings starting from October 31, through Deutsche Bank, JP Morgan and NAB itself; Commonwealth Bank of Australia will be one week behind it, led by BNP Paribas, Morgan Stanley and CBA.

Neither is yet clear on the likely launch date for a deal, nor the size or currency. But the market expects to see them sooner rather than later. “I expect lawyers are drafting program documents and you will probably see the first deal launched in mid- to late November, subject to market conditions and regulatory approval,” Katerdjian says. “Into which jurisdiction they [CBA and NAB] issue is not yet clear given the early stages of the roadshows, but you would expect ADIs to issue covered bonds in both currencies over time.”

Both banks, and Australians generally, are likely to find a warm welcome in markets that have otherwise become somewhat cynical about the health of the banks who try to borrow from them. “It is very significant, first of all because the Australian banking system is in good shape and one of the safest banking systems in the world,” says Ted Lord, head of European covered bonds at Barclays Capital. “At a time when you have extreme market volatility and talk about a forced recapitalization of certain banks, it is nice to have a potentially large market open up where these issues are not the focus of attention. Investors are very keen, and Australians have a history of tapping into different capital markets around the world.”

Legislation limits covered bond issuance to 8% of total assets by any one Australian bank, but that still represents an extremely large potential pool of capital raising. “It depends on how successful the first issues are,” Lord says. “If you add up the assets that could potentially be raised, you have a potential issuance volume of around A$125 billion before you reach the ceiling – there’s a lot of scope there. Also the Australian covered bond market offers one of the few markets with the potential to build full curves in a variety of currencies.”

However, Katerdjian adds that Australian banks will have to make careful considerations around their volumes of issuance into a new offshore market, since that is already an area of scrutiny in a review of the Australian banking sector underway by rating agencies. “The expectation is, given market dynamics and liquidity treatments offshore compared to domestically, that we will see most ADI covered bond issuance go offshore. Balancing this has to be the hot topic of the offshore vs onshore wholesale funding mix for ADIs, particularly given the pending ratings agency reviews,” he says.

In the market’s favour is the fact that the Australian government is likely to support it if it means a better outcome for the local consumer.  “This is a market that should not only have legs but continue to grow,” Lord says. “It should be seen not just as a strategic move for banks who want to issue covered bonds. The government is realising that this is a viable market that could help with funding, and hence help the Australian population with lower mortgage rates.”