Asian borrowers raised $130bn from 231 G3 deals in the first seven months of the year, according to Dealogic. That is an increase of almost a third over the same period in 2013 and predominantly thanks to the sale of bank debt.
But what could send the figures from impressive to stellar is that, from September, the top five Chinese banks will be preparing to sell Rmb128bn ($20.8bn) of bank debt having had sign off from the China Banking Regulatory Commission.
The reason behind the wave of bank issuance is the need for Basel III compliance. Asia’s banks are boosting their balance sheets based on new guidelines set by the Basel Committee on Banking Supervision in July 2011. In the aftermath of the financial crisis the global regulator recommended much more stringent capital rules for banks to protect against losses. While Asian banks might have appeared slow to engage with the new world order initially, nothing appears to be in their way now. Indeed only Malaysia, Singapore and India still need fully to implement the new rules.
“Since 2013 in Asia Pacific there have been around 95 Basel III compliant deals worth $75bn. The reason that there have been no headlines about this is that they have overwhelmingly been placed domestically and $40bn has come out of China already this year,” says Brian Weintraub, head of capital and funding solutions, financial institutions group, Asia Pacific at Deutsche Bank in Singapore.
In the front line of issuance has been tier two paper. These bonds absorb losses after tier one assets such as common equity and retained earnings, cannot be guaranteed by the issuer and must be subordinate to depositors and general creditors.
Universally these bonds have proved successful across the region. In March, Japan’s Mizuho Financial Group sold a $1.5bn 4.6% subordinated 10 year tier two issue; in April, Korea’s Woori Bank sold a $1bn 10 year bullet at a tight Treasuries plus 207.5bp; and in June, after much consideration, Krung Thai Bank sold Thailand’s first Basel III compliant paper — a generously oversubscribed $700m bond that yields 5.2%.
The reason for the hesitation over these bonds has been the debate about regulation. The region wants no repeat of a debt crisis, but the approaches of individual jurisdictions are different. In the Philippines, for example, which has seen $1.15bn of tier two issuance since November, local investors have to sign so-called “big boy” letters, which confirm that they understand the risks involved in buying the debt.
Japan has a different approach. It has protected Basel III debt via the country’s Deposit Insurance Law. Although tier two debt like the Mizuho notes will indeed expose investors to principal losses should regulators decide that the bank is no longer viable, the extra legislation provides an extra layer of protection. It is specifically aimed at preventing banks such as Mizuho, which are deemed systemically important, from becoming non-viable.
Australia and Thailand have the same concerns but different solutions still. In both jurisdictions, tier two bonds have a loss absorption feature built in. In the event that the bank is deemed non-viable, the bonds must either be converted to equity or written down. But Thailand has gone one step further and the country’s Securities and Exchange Commission has banned the sale of tier two bonds to retail investors altogether.
NO PLACE FOR MOM AND POP
While the desire of the regulators to protect retail investors is understandable, it is worth questioning how necessary it is. As one senior banker in Hong Kong explains: “The majority of the issuance has been offshore and most issues are sold in $200,000 denominations. You are in the world of the high net worth individuals.” It is hardly the place for “mom and pop” investors.
But while regulators have concerns, investors have none. Indeed global investors appear completely agnostic. As one analyst in Singapore says: “We are still living in a yield-seeking environment. You are not going to get a 6% yield with senior debt.” Another, in Hong Kong, is similarly pragmatic. “The world has not changed. Banks still have to issue subordinated debt. All that has happened is that there has been a change in the driving licence and a change in the test.”
The dynamics of jostling for position to issue Basel III compliant debt are refreshingly normal. In mid-August, China Construction Bank Asia (CCB Asia) sold a $750m 10 year non-call five at Treasuries plus 275bp to yield 4.345%. What was significant was that CCB pushed the button on the tier two deal to get to market ahead of the expected September rush. As a result, it was able to price the paper 3bp inside the curve and with little to no premium.
While banks have used the debt markets to sell tier two debt, they are beginning to look at the equity markets for additional tier one (AT1) capital. At the time of writing several Chinese banks, for example, Bank of China, Agricultural Bank of China and SPD Bank have all applied to the China Securities Regulatory Commission to sell preferred shares that will replenish tier one capital.
To date there has only been one offshore AT1 bond issue from Asia although a number of Chinese banks were on roadshows in mid-September. In mid-April, China Citic Bank printed $300m Reg S non-call five year perpetual bonds that were priced at par to yield 7.25%. But the lack of issuance does not reflect a lack of investor interest.
“Demand for Chinese bank capital will remain healthy because the banks haven’t done much offshore in the past,” says William Fung, syndicate, debt capital markets Asia at UBS in Hong Kong. The Citic deal saw orders that almost hit $6bn. He adds that it will help future issuance that the paper has performed well in secondary, trading in 100bp.
“For bank capital the price differential can be so large that for most markets with domestic demand, issuers will rarely go offshore,” says Herman van den Wall Bake, head of fixed income capital markets Asia, at Deutsche Bank in Singapore. “This is why the majority of capital issuance across the region has been onshore.”
This is not too surprising with the Australian banks. At the end of August, CBA sold an increased A$2.6bn ($2.42bn) tier one issue at a tight three-month BBSW plus 280bp. This follows similar tier one issuance from all the major Australian banks this year — from ANZ which sold A$1.61bn notes in April and Westpac in May. Certainly AT1 issuance in the domestic markets has been especially strong. In November last year Singapore’s United Overseas Bank (UOB) sold a S$500m ($401.2m) perpetual non-call six year at a yield of 4.75%.
Frank Kwong, head of syndicate Japan for BNP Paribas in Tokyo, points out that the tier one paper has traded up to 103 in the secondary market and asks: “Why would a bank go to the dollar market when it can raise money that cheaply in the local market?”
This dynamic has been seen right across the Asia Pacific region. Bank of India sold Rs25bn ($408.4m) Basel III-compliant AT1 bonds at the beginning of August at 11% while similar deals from Punjab National Bank and a further deal from Bank of India are expected before the end of the year. IDBI Bank spent much of July on an overseas non-deal roadshow for a potential offshore sale of Basel III-compliant AT1 securities, but it is rumoured that it may tap the domestic market instead.
And at the time of writing, Malayan Banking (Maybank) is pressing ahead with its proposal to set up its first AT1 programme and is expected to sell its first issue of size of around M$1bn ($320m) in Q3.
While the desire for the banks to ramp up their capital is understandable, a valid question to ask is whether there will be any push back from investors full of bank debt.
NO INDIGESTION HERE
First and foremost, the volumes that are being spoken of for Chinese bank debt need to be put into perspective. At first glance the size of the individual deals appears large, but several bankers point out that China Citic Bank at the end of August sold Rmb37bn ($6bn) 10 year non-call five Basel III-compliant onshore tier two bonds at 6.13%. The market, they argue, is used to deals of this size. This means that the real question is not whether deals can be printed, but can it be done in a way that is efficient.
There appears to be little indication of a lack of appetite from investors. As Jacob Gearhart, head of global risk syndicate, Asia, for Deutsche Bank in Hong Kong, says: “Investors are just getting their arms around potential supply.” More to the point, indigestion is unlikely to happen even in the medium term. He adds: “Recent transactions have seen a good deal more interest from out of the region, from Europe especially. Certainly the participation of non-Asian accounts is more meaningful than in the past.”
To capitalise on non-Asian participation on Asian bank debt is possibly the only challenge facing the banks. The name recognition of, say, a Rabobank, is not the same as a Thai or Malaysian bank, especially in the US. But the banks themselves realise that investor education is a challenge.
“Roadshows are not going to be two day smash-and-grabs, they are going to be a long drawn out process. We need to do a lot of investor work on these credits,” says one Asian DCM head.
Despite the wrestling with regulation, it is clear that Asian banks are on track for full Basel III compliance. Certainly the deal pipeline for the rest of the year is full. Bankers estimate that from Asia ex-Japan another five or six trades could be seen, possibly as much as $6bn-$7bn. But what will really move the dial is if Chinese bank deals begin to appear in any volume. A further $12bn-$17bn of tier two debt and then another $5bn-$10bn of AT1 bonds all seems likely. With smaller Asian banks already marked down as next year’s business, FIG bankers and investors had better be ready.