But with the pool of mega IPOs out of China growing ever smaller, its homegrown banks are seeing the ground shift beneath their feet.
The pullback in the equity units of banks in North and southeast Asia is by now a well-worn tale. CIMB, CLSA, Macquarie Capital and Nomura are among those that have announced cuts amid softening dealflow, while Standard Chartered is making a clean break from its global equities business.
Goldman Sachs was also said to have let go of 15 staff at its Singapore office in early March. But attrition has not been a problem for the Chinese banks, which are reaping the benefits of resurgent onshore and offshore stock markets.
In spite of that the Chinese banks have not been sitting on their haunches. Having hired talent from the bulge brackets and spent time on developing their deal execution prowess, China's banks are in their best shape ever and no longer play second fiddle to their US or European rivals.
“[Chinese banks] have come a long way in a short time,” said former investment banker-turned-consultant Philippe Espinasse. “In 2001 and 2002 they were nowhere to be seen. Except for BoC International and CICC, none of them were heavy hitters.”
The market looks different now. It would not be uncommon to see Chinese banks making up half or more of the seats in the syndicate of a large IPO, or even taking the wheel on execution.
The rankings reflect this. The likes of Bank of China (BoC), China Construction Bank (CCB), China International Capital Corp (CICC), Citic Securities and China Merchant Securities have shown marked improvements in deal volumes.
In 2014 Citic Securities, BoC, CICC and CCB took the 10th to 13th spots on the ECM bookrunner rankings for Asia ex-Japan ex-onshore China, with China Merchants Securities at 20th, according to Dealogic.
Together they brought 126 deals and snagged some $14.25bn in league table credit. That was still below the $16.10bn clocked up by first-placed Morgan Stanley from 61 deals, but it was double the $7.23bn the five Chinese banks recorded in 2013.
The cluster of Hong Kong holidays in the first three months of 2015 sliced dealflow for the five banks by half, to 12 deals worth $1.43bn, compared to 27 deals for $2.08bn in the same period of 2014. Yet competitors expect the Chinese firms to be firing on all cylinders for the rest of the year.
That China accounted for a record $34.5bn of the $55.9bn in ECM business that got printed in Asia ex-Japan for the first quarter will be good news for the offshore arms of the Chinese banks, whose fates are inextricably tied to the Mainland.
Ex-onshore China, annual ECM volumes by Chinese issuers have nearly tripled in value since 2012, to $90.64bn in 2014, Dealogic shows.
In Hong Kong the Chinese banks have burnished a reputation for being shrewder than the competition, leveraging not only their deep relationships with Chinese corporates on the buy side, but also cozying up to potential issuers on the sell side.
“Chinese banks have a natural advantage when it comes to selling Chinese deals because they have the investor base and can push more aggressive pricing and valuations,” said a Hong Kong-based lawyer who has worked with both bulge bracket and Chinese firms.
“The ECM desk of any bank lives or dies by its ability to sell a deal. Some of the bulge brackets, no matter how hard they try, just can’t sell Chinese deals to their international clients.”
The lawyer cited an instance where a bulge bracket firm was running a major deal and realised at the last minute that it would be left long of a trade if it didn’t enlist the help of a Chinese bank. One of the big banks was then duly roped in and it was able to pull strings to cover half of the transaction — despite coming in at the 11th hour.
“For a Chinese issuer, unless you have tons of cash to spare and you need to distribute your deal internationally to gain a global profile, the bulge brackets are not your first port of call,” the lawyer added.
What the Chinese banks lack in areas such as sector coverage, research and having a wide regional footprint, they make up for in their strong lending relationships with Chinese firms, which allow them to get a foot in the door for higher margin business down the line, like IPOs.
“They can lend money and earn a margin on the loan that is measured in basis points,” Espinasse said. “But ECM is much more lucrative. Banks can charge fees of 2.5% of the IPO proceeds and 1% for brokerage, and that’s not counting the aftermarket business.”
For Hong Kong transactions, some clients find it easier to work with Chinese banks because they are seen as less bureaucratic and are more attentive and generous with their time, according to Ronny Chow, a partner at Deacons, a Hong Kong law firm.
“A state-owned enterprise (SOE) will choose at least one Chinese bank to be in the syndicate for relationship reasons and also because of the government’s influence, especially for mega-sized transactions,” he said. “So to some degree they are guaranteed a spot on IPOs.”
But if there was pressure in the past from the government on China’s SOEs to give plum roles to Mainland banks, then today they win jobs based on merit and for commercial reasons, said the first lawyer.
On the brink
Ironically, the Chinese banks are also benefitting from the amount of compliance and regulatory pressure that their bulge bracket counterparts have to endure, said industry officials.
High internal thresholds and a desire to err on the side of caution mean that international investment banks now have more hoops to jump through, curbing their dealmaking prowess, said the lawyer.
“The practice at bulge brackets is to defer to HQ,” he said. “The investment committee is pretty stringent, and they can be choosy on things like which sector a company is from. Analysts from the big firms also usually don’t budge on valuations.”
These stricter standards have led to trades being shunned at even the slightest suggestion of impropriety. A source points to an incident where a foreign bank dropped out of a transaction right before the A1 was filed, after the chairman of the IPO candidate was linked to a bribery investigation.
The chairman was eventually cleared of any wrongdoing but by that time the company’s advisers had to start from scratch with the prospectus. “A Chinese bank would not have reacted so drastically,” the source said.
Yet cracks are starting to show in the low-fee, high volume model the Chinese banks have settled into. As competition gets fiercer, the tried-and-tested formula of being more aggressive than the next bank on underwriting risk will prove difficult to sustain.
In the view of one headhunter, that entire model is at risk of blowing up. “The Chinese banks don’t understand how to price risk and where that security should properly trade in the long term, which is why they can afford to be cut-price,” he said.
“Because they are so prone to mispricing risk they will always be stuck chasing the low-margin deals. The bulge brackets are a million times better. How do Chinese banks decide on pricing? They put one finger in the air and see where the wind blows.”
A banker at a Chinese bank roundly disagrees, saying bulge brackets have been just as guilty of biting off more than they can chew when it comes to risk. “I would say it comes down to the banker rather than the institution when this [being too risky] happens,” he said.
One reason why Chinese banks may have performed poorly on pricing, according to the headhunter, is that they don’t employ the right people to evaluate risk, even as they sell products that are highly commoditised.
“ECM teams in bulge brackets have people who understand risk on every desk, but the Chinese banks are pretty much riskless and sell very commoditised products, which is how they can drive margins to the floor,” he said.
Such a strategy works in bull markets, but at some point after the trade hits screens and the market turns for the worse, the Chinese banks will be “hung out to dry and their clients eaten alive”, added the headhunter, who declined to provide any examples when pressed.
Yet because data on the market share of trading by banks in Hong Kong is not disclosed by the stock exchange, it would be difficult to generalise on the ability of Chinese banks to execute an ECM transaction, bankers say.
Tide is turning
Industry watchers reckon that before long, Chinese banks will have to start weaning themselves off a model of competing on fees and instead seek to bolster other parts of the business, like wealth management and distribution outside their traditional client base of Chinese investors.
Meanwhile, the blocks business in Hong Kong continues to be the dominion of the bulge brackets because they have the highest market share in trading, which gives them a bird’s eye view of fund flows and where buyers are meeting sellers.
“That is what gives them the confidence to hard underwrite deals, as well as a higher chance of bagging mandates,” Espinasse said. “In addition bulge brackets have superior block trade execution, usually sounding out five or six investors to cover a substantial portion of the book before it launches.”
And although the Chinese banks have built decent trading platforms, it has not translated into market share, he added. Their usual clients – high net worth individuals and retail and corporate investors – are less familiar with large block trades, where sizeable commitments are required at short notice to de-risk the transaction.
Over the longer term Chinese banks will need to find a niche, said market participants. China Renaissance, for example, has a strong TMT focus, a platform it has used to land juicy roles in the high-profile listings of JD.com and Alibaba, said Deacons’ Chow.
Expanding beyond their comfort zone in Hong Kong is another option. “Given time I don’t see why Chinese banks can’t grow in the US or anywhere Chinese firms are keen to list. They can parlay their Hong Kong IPO experience elsewhere,” said Chow.