The explosion in Chinese equities since the end of last year, spurred by multiple rounds of monetary easing that pushed valuations to record highs, spilled over into a rush of deals in Hong Kong, as issuers made a beeline for equity issuance.
The market has had a wild ride and Hong Kong is now the number one destination for new listings globally in the year-to-date, according to Dealogic, with 39 IPOs raising $18bn. Shanghai was in second place, with floats totalling $17bn in proceeds, and New York in third.
But that excitement has ebbed drastically in recent weeks, with A-shares staging their sharpest pullback in years. Recent measures by the government to prop up the market have also had a limited impact, as the Shanghai Composite Index fell 3.5% on July 2.
“The calendar in the first half was heavily weighted towards China deals, especially out of the financial sector and the brokerages, starting with GF Securities, as well as large H-share private placements for the listed brokerages,” said a Hong Kong-based ECM banker.
“Europe is already in the price. What’s not in the price is how China will continue to react,” he added. “If you look at the few recent IPOs, it was predominantly the mainland investors who were prepared to pay a higher price than the foreign funds. Will they still do that?”
Rupert Mitchell, co-head of ECM syndicate Asia ex-Japan for Goldman Sachs, said global macro events, such as the timetable for the US Federal Reserve tightening, and Greece, will have a big effect on how the second half pans out.
“Closer to home, A-share volatility and, more importantly, how mainland regulators and central bankers respond to these price swings will be a key input to deal sentiment,” he said.
“Price insensitive mainland Chinese investors have set the tone in offshore deals for most of the year. But as some recent ‘hot’ IPOs have not offered the significant day first returns we saw earlier, pricing discipline is beginning to return.”
Greed is not good
The writing has been on the wall after the lack of a first day pop for HTSC in May, said another ECM syndicate banker. “After HTSC we started to notice that the momentum for IPOs was going down with secondary, and many retail and hedge funds are no longer optimistic.”
This volatility was a big reason why the recent spate of IPOs shied away from pricing their deals at the top. Luzheng Futures Co, Guolian Securities, and Universal Medical Financial & Technical Advisory Services Co (see separate stories) all went for a prudent approach, with the exception being Harmonicare Medical Holdings.
Akram Zaman, head of Asia Pacific ECM syndicate at Bank of America Merrill Lynch, said it was important for issuers and sellers to navigate the current volatility and macro uncertainty carefully as they contemplate raising capital and monetising stakes.
“The windows are opening and shutting more quickly as a result, so advice for investment banking clients in this environment is paramount. Some small-mid cap names in particular will look to access markets more opportunistically and on a de-risked basis.”
Some smaller and medium sized issuers in Asia have put their ECM deals on hold and will look to access the markets at a better time, added Zaman. As for H-share issuers, the private placement route will be an attractive way to raise money and de-risk their transactions in a club-style manner, he said.
Muted impact
In a bid to stem the troubles in the market, China reacted this week by easing rules on margin calls and trading fees, and there are even reports that is is contemplating halting new IPO approvals for the time being.
But these measures will be insignificant in the broader context, said a banker at a Chinese ECM house. “For example, the brokerages have their own internal controls and given how fragile the market is, they won’t be so keen to loosen up.
“And with trading fees already so low, the reduction prescribed by the government will not make a dent to investors. What the government needs to realise, and the main problem here, is that the momentum has essentially become weak.”
A banker at another bulge bracket firm said the bull market had been state sanctioned the whole time, and the regulators still had the policy toolkit to stimulate the market when they needed to, as they could play the interest rate card.
“At a micro level we expect more rate cuts, which will force even more money into equity,” he said.
But there is no denying that the A-share gloom has cast a pall on Hong Kong deals as investors avoid exposure to A-shares.
“Primary is being hurt as before this investors were happy to take what they were given, and even angled for more allocations. Not anymore,” said another banker at a Chinese bank. “Some European funds have stopped taking primary deals in Asia and are outright rejecting their allocation.
“This was what happened to Legend Holdings. On settlement day one of the European funds pulled out about $10m at the last minute. There are penalties for doing so, but I guess the problems in Greece were too much to bear.”
A lead banker for Legend did not deny that the fund had pulled out, but said such incidents took place quite regularly and it was not a big problem for the underwriters to quickly reallocate stock.
Welcome correction
But it isn’t all bad news. “This is quite a modest correction for China and international investors are wondering whether the pullback is an opportunity for them to get back in the market after they missed the boat in April,” said the banker at the bulge bracket firm.
“The mood on our trading floor in Beijing is calm and no one is feeling particularly Armageddon-ish. Instead they are going, ‘Ok, the government is pushing people to buy equities’. The risk/reward is in favour of being aggressive right now.”
The dramatic pullback in sentiment is also not expected to hurt the pipeline of large deals that are due to come once the peak season begins again for ECM towards the end of the year.
“There is huge interest for the coming financial deals as they are quite differentiated," said the banker at the bulge bracket firm. "We are seeing a lot of interest in China Huarong Asset Management, China Reinsurance, and Taikang Life Insurance Co."
Negativity aside, investors are looking for more ECM products to take advantage of the alpha that new issues offer, although some of the volatility in the market will also mean they will be more selective and disciplined around which names they would like to invest in, said Zaman.
“For the moment, ECM activity feels constructive in Asia Pacific and we see a lot of growth potential in the region,” he said.
And with summer fast approaching, bankers hope the lull will give them some breathing space, and the markets a chance to rebound.
“The timing of this correction in China is not necessarily a bad thing from an ECM practitioner’s perspective as the deal market was already entering its seasonal hiatus between late June and mid-August,” said Mitchell. “Better for dislocation to occur now than during the key offering seasons of April to June and September to November.”