European treasurers have piled into US private placements with gusto this year, raising almost as much year to date as they raised in the whole of last year, and prospects for the market growing further are good.
The US private placement market is driven by US insurance companies, a buyer base that offers medium sized companies an important alternative to bank funding. The pressures placed on balance sheets during the financial crisis made banks reduce lending to companies, making it more expensive to borrow. This made many treasurers realise that it was necessary to diversify funding sources.
Large companies with ratings have the option of tapping the bond market, and the boom in corporate bond issuance in 2009 to the present day shows that they opted for that in droves.
But for smaller companies unwilling or unable to get a rating banks have been pretty much the only source of funds out there apart from US private placements.
"Many European banks still have constrained lending capacities," says Michael Dickson, global co-head of private placements at Deutsche Bank in New York. "The last few years have also been a wake-up call and many treasurers now realise the importance of having diversified funding sources."
Banks have always been comfortable in lending out to five years but unwilling to go much further than that. The institutional buy-and-hold investors that dominate US private placements are happier going longer.
"Insurance company investors typically prefer maturities of between seven and 12 years, which is longer than banks are usually prepared to lend for," says Rob Lamb, director in debt capital markets at HSBC in London. "USPP investors also tend to be more flexible in terms of the specific year of maturity and on tranche size."
The pricing is competitive, too, particularly as Basle III is only going to make bank funding more expensive.
"US insurance companies have what is bordering on insatiable demand for corporate paper," says Calum MacPhail, head of private placements at M&G in London.
This combination of price and longer maturities on offer is a compelling one. Another advantage is the nature of the investor base they are buy-and-hold investors and supporters of a business.
"[They are] long term partners in the business," says Lestocq Orman, managing director in debt capital markets at BNP Paribas in London. "Investor groups tend to be small compared with public deals often between seven and 12 investors will be in the deal, depending on size."
The US private placement market operates in a similar way to the bank market, in that it installs similar covenants on debt packages. It enables issuers to avoid the costly and onerous issue of getting a public rating. Instead, borrowers get a rating from the National Association of Insurance Commissioners. Investors are also committed to doing their own credit work.
Because many of the issuers are unrated, traditional companies are favoured, but investors are prepared to be flexible.
"The market is open to investors in most industries," says Lamb. "While investors have historically preferred industrial or manufacturing credits, for example, we have recently seen strong appetite for less frequent sector issuers, as demonstrated by the success of the recent Logica and BBA Aviation transactions."
The buyer base for these products is overwhelmingly made up of US insurance companies, but there are a few from other corners. The UK has investors such as M&G Investments, which runs a £1.55bn UK companies financing fund which buys US-style private placements, and all in all has about £2.4bn invested in private placements.
This investor diversification offers companies the opportunity to borrow in other currencies, notably sterling. Dollars is the main currency on offer, but the cost of a cross-currency swap can make it less appealing an investor base for some companies whose funding needs are not in dollars. Deals have been done, however, where the investor bears the cost of the cross-currency swap.
But it will take time to build up a buyer base outside the US. Investing in unrated credits is labour intensive buyers need large teams of analysts to do the credit work.
"Were surprised there arent more European investors," says MacPhail. "But it is quite resource-intensive. We have public sector analysts covering sectors and also dedicated private placement analysts."
Although certain factors which have caused a spurt of issuance this year for example a favourable euro/dollar basis swap will not always be around, the market is a strong one and a necessary one. Despite a burgeoning unrated public bond market in Europe, US private placements will be the long term funding option of choice for many issuers.
"Those issuers which dont have a rating or the name recognition necessary to do a public unrated deal will always need US private placements," says Deutsche Banks Dickson.