While Asia’s loan markets may have changed only superficially, the Asian debt capital markets bear almost no resemblance to the way they looked 30 years ago. The emergence of China on to the world stage, and into the international capital markets, has changed the business beyond recognition.
“Greater China accounts for around 70% of issuance in the G3 Asia ex-Japan bond markets, from virtually zero even 20 years ago, when volume in the region was dominated by Korean issuers,” says Derek Armstrong, managing director and head of Asia Pacific debt capital markets at Credit Suisse in Hong Kong.
G3 currency, specifically dollar funding, has grown exponentially — from around $15bn in 2000 to around $200bn last year, according to Credit Suisse — and there has been a noticeable shift away from 144A format to Reg S.
“Today the US dollar Reg S market is capable of supporting large-size, multi-tranche deals across the maturity curve,” says Neil Arrowsmith, head of Asia Pacific syndicate at MUFG in Hong Kong.
This year, Deutsche Bank reckons that a full 70% of new issue volume will be Reg S only when five to 10 years ago it was about 50% of Asian volumes.
“Asia has a much more active regional investor base which is driving demand — more business is being executed in Reg S only — with volumes more than doubling over the last five years alone,” says Jake Gearhart, Deutsche Bank’s head of debt syndication and origination, Asia Pacific.
The Asian dollar market is receptive to a diverse range of issuers and provides for debt structures ranging from vanilla to subordinated, perpetual and hybrid structures in various forms and targeted at specific investor groups.
At the sovereign level, for example, even Mongolia has been able to tap the markets twice in the past year, although its $500m issue in March last year had the dubious honour of the highest coupon on a sovereign bond since 2011.
Lots of the activity in DCM is driven by Chinese issuers as the regulatory environment has become more conducive to funding through bonds, and issuers have more need for dollar liquidity to fund overseas expansion and international M&A.
“We’re also seeing much more activity in the corporate high yield market in the region, again most significantly from Chinese issuers and in the real estate sector,” says Arrowsmith.
Again, growth has been rapid. Since 2000, high yield issuance from Asia has risen from around $2bn to more than $20bn last year, according to Deutsche Bank.
Banks and issuers are also taking a different approach to roadshows and bookbuilding. A decade ago, a roadshow would involve a day in Hong Kong, a day in London and a day in New York. These days, bankers are more likely to spend a day in Singapore and a day in Hong Kong. It is now the norm to have bond issues with no investors outside the region.
The rise of local currency
But the Asian bond markets have changed in other ways too. Most significant is the development of the domestic currency bond markets.
These emerged in the wake of the Asian currency crisis that was triggered in May 1997 by the Thai baht devaluation. It was a perfect storm caused by the mismatch of short term debt in dollars being used to fund long term investments whose returns were tied to the value of their domestic currencies. In retrospect, it was an accident waiting to happen.
A period of painful soul-searching and reform followed.
“Our economies developed more robust monetary policy frameworks against external shocks; undertook financial, fiscal and structural reforms; and adopted macro-prudential measures to deal with financial vulnerabilities,” Junhong Chang, director of the ASEAN+3 Macroeconomic Research Office, told the Asian Development Bank meeting in Yokohama in May.
The local currency bond markets had to grow up and stop being, to all intents and purposes, glorified syndicated loan markets. These markets have now become enormous.
“One of the most exciting things is the evolution of the China domestic bond market, the third largest in the world, and its gradual opening up to foreign participation for both issuers and investors,” says Ashish Malhotra, global head of bond syndicate at Standard Chartered in Hong Kong.
At roughly Rmb48tr ($7.4tr), the Chinese domestic bond market is nipping at the heels of the Japanese market at $11tr, though it remains far behind the US on $35tr.
Growth in Asian bond markets has been driven by what bankers call the region’s “notoriously diverse investor base”. This is populated by local banks, private banks, life insurance companies, pension funds as well as local and international funds, and it is these that have forced longer maturity profiles.
On the buy side, flow has been driven by the need for yield. “The need for income in an environment where you have a lot of fixed income instruments in negative territory is what is leading to the flows,” says the head of Asian credit at one asset manager.
The climate is unlikely to change any time soon. “China will continue to dominate the market, though hopefully balanced out more by the emergence of certain southeast Asian and Indian markets that have room to grow,” says Arrowsmith. “Bank liquidity has always been strong in Asia and certain local bond markets have also developed to provide a competitive local funding option.”
Risks and rate hikes
But there is one dark cloud on the horizon: US interest rates. With one rate hike under the US Federal Reserve’s belt so far this year and a second likely in the not too distant future, bankers are starting to worry about outflows.
“Bond market activity, especially in G3 currencies, is very much dependent on the overall level of interest rates,” says Credit Suisse’s Armstrong. “As rates climb you would expect market activity to moderate somewhat.”
Most believe, however, that any slowdown will be gradual. Certainly there is little sign of banks trimming their debt capital markets teams.
Even if there are two further interest rate rises in the US this year, rates are still likely to remain below historical medians, while the stronger balance sheets of issuers and strong regional economics should sustain an active debt capital market in Asia.
Most importantly, the large issuance volumes in recent years will all need to be refinanced.
“We expect the markets to remain calm in the run-up to a potential US interest rate hike in June and see a healthy pipeline as the market remains constructive for new issues,” says Armstrong.
“A number of issuers are positioning themselves to access the market as part of liability management exercises before two more potential US rate hikes this year, and also many of the previous 2012 and 2013 deals are coming up for refinancing.”
There are, as always, doom-mongers who argue that the tightening of US monetary policy, the increasingly domestic focus of US president Donald Trump and rising inflation could call a halt to what has been a 30 year bull run. But not even those who predict a gapping out of Asian credit spreads or a disorderly sell-off of emerging market credits reckon that it will be anything other than a bump in the road.
“These are good times to be a DCM banker in Asia!” says Standard Chartered’s Malhotra.
