Equities bounce back off the ropes
ECM bankers in Japan felt punch drunk after a brutal 2011 but they are coming round to a brighter future, with new equity and convertible deals giving them hope of a comeback.
Something highly unusual happened in Japan in the early part of 2012. By late March, Japans Nikkei-225 index was up around 20% year-to-date, outperforming all of the worlds other leading equity indices. For longstanding participants in the Japanese equity capital market, who had watched the Nikkei index slide from a peak just shy of 39,000 at the end of December 2008 to a whisker over 7000 three months later, this outperformance was long overdue.
Much of this years rally, say Tokyo-based bankers, has been driven by a very discernible improvement in sentiment among international investors towards Japan. "When the situation in Europe started to stabilise, thanks largely to the LTRO initiative, many investors turned their attention to Japan," says Minoru Shinohara, senior managing director of investment banking at Nomura Securities in Tokyo. "What they saw was a relatively stable economy and a cheap stock market. They were attracted more by the valuation than by growth prospects. To me, a clear signal of the change in sentiment came in late January when our London office had a huge amount of orders for Japanese equities, which we had not seen for many months."
The outperformance of Japanese equities also appears to be underpinned by fundamentals in the corporate sector. "We expect Japanese corporate earnings growth in 2012 to be among the strongest in the world, at plus 36.6%," advised Nomura Securities in a recent analysis of Japans economic performance since the 2011 earthquake. That eye-catching increase, according to the Nomura forecast, compares with earnings growth of 10% in Asia ex-Japan, 6% in the US and just 3.4% in Europe. Corporate earnings expansion will be led by Japans electronics sector, where Nomura is forecasting growth of more than 200%. According to the Nomura projections, other sectors posting impressive earnings growth will include utilities and infrastructure (up 60%), and machinery and autos (up 46%).
Earnings growth in the corporate sector will be dictated in large measure by the performance of the yen. Critically, something approaching a consensus appears to be building, which suggests that the yen may already have passed its peak, although strategists may differ on their explanations for why the one-way bet on yen strengthening may have passed its sell-by date.
As Goldman Sachs commented soon after the BoJs announcement in February of its asset-purchase programme and its 1% inflation target, "those who had given up any hope that the BoJ would do anything to counter the yens rise are now being forced to rethink their assumptions."
What is certain is that activity in the new issue market will be healthier this year than it was in FY2011. That is not saying much. "Being an ECM banker in Japan last year was like being a boxer who has taken a knockout punch but is still being kicked," is how one ECM banker describes the experience of 2011.
The grim market data speaks for itself. By late December, according to Dealogics numbers, Japan-listed ECM volume had reached $22.1bn the lowest year to date level since 2008 ($11.1bn) and down 64% compared with the $64.1bn raised in the same period the previous year. IPOs, according to Dealogic, led the decline with a paltry $1.9bn raised in 36 deals in 2011, down substantially from the $14.6bn raised in the same period in 2010. Follow-on volumes were down 62%, to $15.9bn, leaving equity-linked as the only area of the market to have chalked up volumes comparable with 2010, at $4.2bn, versus $4.7bn the previous year.
The consolation for veterans of the Japanese equity capital market is that they had plenty of good years to look back on before 2011. "Five of the last eight years have been interesting times to be in the Japanese equity market," says Douglas Howland, head of capital markets at JP Morgan in Tokyo. "As recently as 2008 and 2009, for example, there was the wave of bank refinancing which kept us all busy."
Simon Roué, managing director and head of equity capital markets at Deutsche Securities in Tokyo, arrived in Japan too late to work on those deals. Indeed, he could scarcely have timed his arrival less auspiciously, taking up his new position on February 1, 2011. "One of the first things I had to learn was how you manage a public equity offering when there has just been the fifth largest earthquake of all time," he says.
Deutsche, alongside Citi and SMBC Nikko, was bookrunning a ¥60bn follow-on offering for the J-Reit, United Urban Investment Corp, when the Tohoku earthquake struck. That transaction, along with a handful of others, was pulled after the March disaster, and by the time recovery from the earthquake was gathering momentum, the European debt crisis was casting its menacing shadow across equity markets worldwide. The result was an extended drought in the Japanese equity capital market. "On a fee basis, if you take out the Resona deal in the first quarter of last year, 2012 was an even worse year than 2008," says Roué.
Nevertheless, a handful of issues, both of straight equity and convertibles, have suggested that the prospects for primary issuance are now brightening. The most significant of these was the ¥230bn ($2.85bn) capital raising by Mazda at the end of February, which was the largest follow-on deal in the Japanese equity market for more than two years, and was split into a ¥162.8bn equity raising and a ¥70bn subordinated loan. Led by SMBC Nikko, Nomura and JP Morgan Securities, the Mazda transaction was three times oversubscribed, with three-quarters of the shares placed locally and the balance sold to international investors.
Shinohara at Nomura hopes that the Mazda transaction will act as a blueprint for other borrowers. "The Mazda deal was important because the proceeds were used for a number of purposes, ranging from R&D into environmentally friendly technology and investment in overseas production, through to balance sheet strengthening," he says.
There has been similarly robust supply in the renascent Japanese convertibles market, with issuers such as Aeon Credit Service and Fukuyama Transporting Co launching well-received zero coupon bonds in March.
Bankers are optimistic that the tone set in the first quarter of this calendar year, internationally and in Japan, has established a robust platform for Japans equity market in FY2012, both at the primary and secondary level. "We think the convertibles market is going to be very strong in FY2012," says Roué. "There are only around 70 convertible issues outstanding in the market today, compared with several hundred a few years ago, and there are significant redemptions due in 2012 and 2013. So investors are very keen for more supply, and with valuations having picked up, conditions are more conducive to convertibles issuance than they have been for several years."
An extension of what some bankers are describing as the mini bull market in Japanese equities would be also be a constructive backdrop for a revival of Japans privatisation programme. The government has made no secret of its desire to monetise its 50.01% stake in Japan Tobacco (JT), the worlds third largest cigarette maker, which is worth some ¥1.9tr ($24bn). Although its dividend is unappealing by the standards of the tobacco industry (the shares were yielding 1.75% in late March), bankers say that JT would be quite a straightforward sell for the government. "Its hard to think of a better defensive stock," says one Tokyo banker. "Japan is the only first-world country that is still smoker-friendly."
Altogether more challenging, say ECM bankers, will be the planned re-privatisation of Japan Airlines (JAL), which was delisted when it filed for bankruptcy with more than $25bn of debt in January 2010. JAL, which in contrast to Japans exporters benefits from a strong yen, has been nursed back to profitability with the help of a government bail-out and a thoroughgoing restructuring programme. In February, JAL reported profits for the first nine months of FY2011-12 of ¥146bn ($1.92bn), and the airline now expects to post a profit in the full year to March 2012 of ¥160bn.That may appear to bode well for a sale of JAL shares, which the government hopes will raise between ¥500bn-¥1tr. But Tokyo-based bankers caution that in an uncertain economic environment and against a backdrop of fierce competition, airline shares will not be an easy sell. "I dont see how Japan can afford to maintain two large-scale airlines," says one, in reference to the competition between JAL and ANA. "Retail investors might be attracted by the discount on flights that Japanese airlines give to their shareholders, but it is hard to see why a JAL IPO should appeal to institutions."