ECM's reaction to rising rates looks ridiculous, but may be reasonable
Subtle shifts of monetary policy don't justify the mass cancellation of initial public offerings, raising the question: Why all the pulled deals?
Almost all planned initial public offerings of a reasonable size were crushed in the recent violent rotation away from growth stocks and anything else even remotely risky. The only major company left in the European market, Vår Energi, increased its dividend yield promise to up to 10%.
After WeTransfer, Cheplapharm and Ibercaja were cancelled, banks also quietly postponed other deals they had planned to launch.
“Volatility is the death of IPOs”, said one banker. He and most of his colleagues agree that interest rate uncertainty is to blame.
The relationship between interest rates and stock prices is indirect, but, generally, they move in opposite directions. High rates make borrowing more expensive and slow down company growth. They also make other investments, such as bonds, more attractive compared to stocks.
When a rate increase is expected, companies looking to float therefore need to factor that into their valuation expectations. If a rise in rates comes as a surprise, markets become volatile, and IPOs harder.
But can the stances recently adopted by central banks be described as surprising?
Aware of the risks to market stability of a sudden increase, the Fed and ECB have been moving at a glacial pace. They were thinking out loud about the possibility of talking about raising interest rates for the best part of 2021.
The ECB made no changes to monetary policy following its meeting last week, but by tentatively not completely ruling out an interest rate rise this year, it “surprised markets with how hawkish it was”, according to a fund manager at a top investment firm.
Even the Fed, which is less concerned than the ECB with EU member states' abilities to repay their debts, and therefore moving faster, is keeping rates far below the historical norm for the foreseeable future.
Most bankers picked interest rates as the number one risk factor for equity markets in November and December. But they also predicted a busy year for IPOs, albeit not as intense as 2021.
Nothing unforeseen has happened since then, which makes the market reaction — deals pulled left, right and centre — look ridiculous.
But then again, looking at it from another angle, the valuations that companies have enjoyed in recent years could be considered equally ridiculous.
Perhaps what is really driving the weakness in the market is the dawning realisation that a correction is overdue. In that case, there is no degree of certainty around interest rates that would fix the problem — but this would be too scary to admit.