Market benefits from pragmatic approach

  • 25 Apr 2007
Email a colleague
Request a PDF

Having survived a dreadful 2002, most market participants were dreading 2003. Few could blame them — the world’s big economies were struggling, war in Iraq was a certainty and the spectres of Enron and WorldCom still haunted the markets. But against all the odds, 2003 saw one of the most incredible turnarounds in the history of the capital markets. It turned out to be a year to celebrate, as corporate issuance hit top speed. Toby Fildes reports.

ne of the international capital market’s greatest qualities is its resilience. Time and time again, after panic or disaster it has quickly picked itself up and returned to financing the world’s most important governments and companies.

And in 2003, its resolve was tested once more. Having endured a dreadful 2002 in which almost everything that could go wrong did go wrong, most market participants were not looking forward to the new year. They had the prospect of war in Iraq to worry about, as well as the threat of inflation in the US and Germany, while the memories of fraud on an almost unimaginable scale in the shape of Enron and WorldCom were still fresh.

The only crumb of comfort was that the corporate accounting problems had somehow been confined to the US. But that crumb had disintegrated by the end of February following Dutch retailer Ahold’s admission of a $500m overstatement in profits at its US operations.

At first the outlook was bleak, with Moody’s predicting increasing event risk for investors in corporate bonds. However, as was typical of the market’s resilient qualities in 2003, corporate issuance continued to flow, although ironically the Ahold event did scupper a certain Italian food and dairy firm’s debt plans. Parmalat, which nine months later was being labelled Europe’s Enron with $10bn missing from its accounts, had been meeting investors but Ahold-inspired volatility and speculation rocked the company’s spreads. In a statement, Parmalat said the cost of the operation "did not reflect the solidity of the group’s fundamental debt position".

While the market’s resilience was to some extent taken for granted and few were surprised by its ability to get back on its feet, what was new was the impressive level of pragmatism shown. Indeed, 2003 was the first time that Europe’s debt markets proved that they could handle bad news without pressing the panic button. Cynics may argue that after the sequence of corporate scandals in 2002, any company collapse in 2003 would have seemed like small beer and that the market had no choice but to become shock-proof. There might be some truth in this.

But the assured and calm way in which the market handled the series of problems dealt to it was nothing short of outstanding. Corporate euro issuance not only overtook 2002’s total of Eu136.4bn by September but broke through the Eu150bn barrier at the beginning of December, driven by the twin engines of investors’ insatiable demand for yield and borrowers’ need to lock in rock bottom rates before it was too late.

The first hint that 2003 would be a phenomenal year for corporate credit came on January 10 when Olivetti surprised the markets with a Eu400m 30 year bond as part of a Eu3bn funding exercise by its finance arm. The deal marked the much awaited arrival of the long dated end of the euro corporate curve. Five days later a Eu1bn benchmark for France Télécom proved it wasn’t a one-off. Some of Europe’s finest names followed, including Deutsche Telekom, German utility RWE, Spain’s Telefónica and Electricité de France.

Corporate borrowers not only pushed out along the maturity line in 2003, they also slid down the credit structure.

Corporate hybrid capital securities emerged in June when Linde, the German gases and forklift truck group, launched a Eu400m institutionally targeted perpetual non-call 10 bond that allowed the company, which had been recently downgraded, to strengthen its capital base by refinancing senior debt and gain some equity credit from the rating agencies.

However, Michelin, the French tyre maker, was the only other corporate issuer of hybrid capital that year, and the technique failed to take off. But more importantly, the corporate hybrid ice had been broken. The technique really caught on in 2005, to the extent that in 2006 some Eu5.6bn had been raised by European companies and the technique had successfully spread to Latin America, Japan and perhaps most importantly, had consolidated in the US.

Freddie’s woes

While corporate issuers made great strides in 2003, the US agencies — among the most important and prolific borrowers in the Euromarkets at the time — had an altogether tougher time of it. While in 2002 Fannie Mae was the villain, with its duration gap causing a stink, in 2003 Freddie Mac was in trouble.

Unable to publish its 2002 results as a result of accounting malpractice, the agency fired its chief operating officer, chief financial officer and chief executive Leland Brendsel. For good measure it also fired Brendsel’s replacement Greg Parseghian. The damage to Freddie Mac’s reputation was severe. Freddie, for all its pioneering spirit in 2001 and 2002, was only able to launch one euro denominated deal all year, after European and Asian investors became nervous.

On the sovereign side, the United Kingdom and the Republic of Italy stood out. Italy had one of its most impressive years in the debt markets, launching a host of transactions including a $4bn bond in February that was split into $2bn 10 and 30 year tranches, the longer portion being the only 30 year sovereign, supranational or agency benchmark all year.

The UK, such a rarity in the international debt markets, launched its first dollar bond since June 1996, a $3bn July 2008 issue that was priced at an incredibly tight 2bp over the May 2008 Treasury, thanks to a $13bn order book that built in a matter of hours.

Staying in the UK, HBOS provided perhaps the biggest surprise of the year by announcing that it had devised a structure that would allow it to issue covered bonds. This was some feat, considering the UK did not have a specific covered bond law and had no plans to introduce the legislation. HBOS had engineered a formula that used contract law and securitisation techniques to achieve triple-A ratings for its Eu3bn seven year transaction in July.

Not only was there enough interest in the deal for a book of Eu4.8bn to be built, but 30% of the investors came from Germany. As a result of HBOS’s bravery and structuring mastery, other UK mortgage lenders followed, including Bradford & Bingley and Nationwide.

HBOS’s exploits rather overshadowed events across the Irish Sea where Depfa opened Ireland’s covered bond market with a Eu3bn five year benchmark through Depfa ACS Bank in late February to wide market acclaim. Depfa went on to issue a further Eu4.5bn of asset covered securities from its Irish subsidiary and was joined in the market by WestLB Covered Bond Bank, which issued a Eu2bn five year at 5bp over mid-swaps.


Milk turns sour for investors

Italy’s Parmalat — one of Europe’s most active corporate borrowers for many years— proved that Europe was not immune from the rash of corporate scandals that had first struck the US a year before in the shape of Enron and WorldCom.

Calisto Tanzi, Parmalat’s founder and chief executive, was arrested on December 27, three days after his dairy company had filed for bankruptcy, after disclosing that a Eu3.95bn bank account with Bank of America did not exist, leading to investigations by prosecutors in Parma and Milan.

Tanzi has since admitted to siphoning off around Eu500m from the company to finance other family businesses, but insists that certain members of his staff are to blame — they were the ones how devised the accounting fraud, he told prosecutors, but he accepts ultimate responsibility.

Bank of America and Citigroup are still emboiled in litigation with Parmalat and investors over who will foot the bill.


Gravy train falls off the rails

Some salary packages are too big even for Wall Street, as Dick Grasso, chairman and chief executive of the New York Stock Exchange, found to his cost. Grasso was forced to resign on September 18, after pressure from leading Wall Street bankers and investors over his benefits package.

Criticism had grown after details emerged of the $140m package he was due to receive. While not as large as the payouts to some top US financial executives, the package was seen by many as unsuitable for an executive with a largely regulatory role.

At a time when Eliot Spitzer, New York attorney general, was breathing down everyone’s necks and investors and regulators were especially sensitive to any malpractice, $140m was deemed too much.

Grasso, who many saw as key to restoring investor confidence after September 11 by reopening the exchange within two weeks of the attacks, was the first chairman of the NYSE to have risen from within the organisation, where he had worked for 36 years.

turning point

HBOS leads the covered bond revolution

As the year began, the most eagerly anticipated and well flagged innovation in European covered bonds was the opening of Ireland’s new covered bond market in asset covered securities

Depfa, which had previously pushed for innovation in Germany, was deemed the perfect issuer to prize open the market. But while it did indeed open the market with a Eu3bn five year benchmark via Credit Suisse First Boston, Deutsche Bank and Morgan Stanley, that proved to be an instant hit, by the end of the year, a new and totally unexpected covered bond champion had emerged in the shape of UK mortgage lender HBOS.

Before HBOS, the mere idea of a covered bond being launched in a country with no specific legislation governing such issuance was something that many considered impossible.

But by putting together a structure that used UK contract law and securitisation techniques to achieve triple-A ratings and a structure that, to paraphrase one banker, walked and talked like a Pfandbrief, HBOS proved the doubters wrong.

The UK bank, assisted by Citigroup, Dresdner Kleinwort and Goldman Sachs, was able to achieve the top end of its Eu2bn-Eu3bn targeted size on the back of a Eu4.8bn book and price its debt at the tight end of guidance, 10bp over mid-swaps. The issue quickly tightened to 8.5bp over, placing it just a small margin behind Depfa, whose seven year paper was trading at 6.5bp over mid-swaps.

Particularly encouraging was the distribution achieved in Germany. Some observers had feared that traditional covered bond investors might shun the issue because of its contractual, rather than legislative, foundation, and because it was 20% risk-weighted, compared to 10% for Pfandbriefe.

But German investors took 30% of the deal and confirmed that they were impressed by the structure. "This bond is not based on an explicit covered bond law, but only on the contractual agreements in connection with the issue," said Patrick Blauth at Deka Investments in Frankfurt. "Nevertheless, this structure... includes all the characteristics necessary for a high quality covered bond."

And so the UK covered bond market was born. Further proving HBOS’s success, a bevy of UK issuers were to follow over the next three years, including Nationwide, Abbey National, Yorkshire Building Society and HSBC.

But HBOS fathered much more than a new jurisdiction; it gave the covered bond market the confidence that it could do almost anything anywhere. It also showed, arguably for the first time, just how big the covered bond market could become.

Of course, the UK covered bond gave HBOS some confidence too — confidence that was to see it three years later launch the first mortgage backed US dollar covered bond, a $2bn five year Euro/144A issue via Citigroup and Deutsche Bank that was also the equal largest ever covered bond denominated in dollars.

The 76% distribution to US accounts was the highest achieved on any covered bond, prompting excitement that the US investor base — which had already seen the first deal from a US issuer (Washington Mutual) — was finally ready to be converted to the merits of the product. Thanks partly to HBOS, the US, with its mortgage market 1-1/2 times bigger than Europe’s, had finally been cracked.

Movers and Shakers — John Walsh

Walsh quits Credit Suisse First Boston

One of the Euromarkets’ liveliest characters and most successful bankers, John Walsh, walked out of CSFB in early August, following a bust-up with his bosses. The global head of debt capital markets thus ended a 14 year career at the Swiss-American bank, during which he had risen through the ranks and worked with some of the market’s leading lights, such as Michael von Clemm, Hans-Jörg Rudloff, Ossie Grübel and Allen Wheat.

Walsh had, two years before, headed the Barclays 40 — the team of bond traders who nearly defected to Bob Diamonds’ Barclays Capital in early 2001 and were wooed back by chief executive Wheat with a record package of contacts worth around $300m over three years.

Royal Bank of Scotland lured Walsh back into the market in March 2004 to build a US credit platform. However, in January 2006, Walsh abruptly quit RBS, after a difference of opinion with some of his London counterparts over how the US business should be run.

Movers and Shakers — John Studzinski

HSBC hires big hitter Studzinski

HSBC caught one of investment banking’s biggest fish when it hired John Studzinski from Morgan Stanley in April. It was a bold statement by HSBC, a bank that had a good reputation on the financing and trading side of the business but desperately wanted to compete with the bulge bracket firms in investment banking.

In Studs, HSBC had hired one of the market’s best corporate financiers. He was (and still is) reputed to have one of the finest contact books in the business — one story goes that he was challenged by a colleague to show just how good his contacts actually were. Studs pulled out his mobile phone, pressed the direct dial button and passed over the phone to his colleague. On the other end was Pope John Paul II.

Pope or no Pope, Studs’s time at HSBC was dogged by rumour that he never quite fitted into the HSBC machine, despite helping to bag some impressive M&A business such as advising Mittal on its takeover of Arcelor. It was therefore of little surprise when in May 2006 he announced he was leaving to join private equity firm Blackstone.

timeline 2003
January 1 Luiz Inácio Lula da Silva (pictured with his wife, Marisa) becomes 37th president of Brazil.
February 1 The US space shuttle Columbia disintegrates on its return to Kennedy Space Center.
February 26 Ireland’s covered bond market is opened as Depfa ACS Bank launches a Eu3bn five year benchmark.
March 19-20 The US and UK invade Iraq.
The attack began with air strikes aimed at the Iraqi leadership. The next day troops began the land invasion of Iraq.
April 28 Ten investment banks agreed to pay a $1.4bn fine for inaccurate research reports.
May 28 President George Bush signs tax cut bill worth $350bn.
June 6 The US unemployment rate reaches 6.1%, a nine year high.
July 16 Citigroup’s CEO Sandy Weill announces his resignation and says Chuck Prince (pictured) will take his place.
September 17 Richard Grasso, the NYSE’s CEO, resigns because of outrage over his $140m compensation package.
October 7 California voters recall their governor Gray Davis and elect Hollywood actor Arnold Schwarzenegger.
October 24 Concorde makes its last commercial flight.
November 23 Waves of protests in Georgia, later known as the Rose Revolution, force president Eduard Shevardnadze to resign.
December 9 Parmalat defaults on a Eu150m bond payment and Luciano Del Soldato, chief accounting officer, resigns.

  • 25 Apr 2007

All International Bonds

Rank Lead Manager Amount $m No of issues Share %
  • Last updated
  • Today
1 Citi 29,333.03 101 7.94%
2 JPMorgan 27,208.83 91 7.37%
3 Barclays 23,714.00 55 6.42%
4 Bank of America Merrill Lynch 20,332.10 65 5.50%
5 Goldman Sachs 20,005.21 49 5.42%

Bookrunners of All Syndicated Loans EMEA

Rank Lead Manager Amount $m No of issues Share %
  • Last updated
  • Today
1 HSBC 48,528.41 214 6.32%
2 Deutsche Bank 44,075.51 161 5.74%
3 BNP Paribas 41,452.79 240 5.40%
4 JPMorgan 37,278.65 134 4.85%
5 SG Corporate & Investment Banking 36,258.27 187 4.72%

Bookrunners of all EMEA ECM Issuance

Rank Lead Manager Amount $m No of issues Share %
  • Last updated
  • Today
1 Goldman Sachs 1,607.28 5 23.24%
2 Credit Suisse 1,301.65 4 18.82%
3 UBS 970.80 3 14.04%
4 BNP Paribas 522.35 4 7.55%
5 SG Corporate & Investment Banking 444.17 3 6.42%