The years 2012 and 2013 marked peak activity in the recent history of the CEE corporate primary bond market. Some $19.3bn worth of new bonds were priced of benchmark size in euros and dollars in the first of those years followed by $28.9bn the following year. Dealers piled in to grab some action. In 2009, there was just an average of 2.2 book runners on each of these types of deal. That rose to four in 2012 and 3.3 in 2013. But with so much business sloshing about, that still meant banks were likely earning plenty in fees.
Russian borrowers dominated the flow bringing three-quarters of the supply. But when so many Russian borrowers were frozen out of capital markets in 2014 following EU and US sanctions over the country’s annexation of Crimea, supply plummeted and has not recovered. Just $7.9bn of similar supply came in 2014 and even less in each of the next two years — $6.4bn and $6.2bn respectively, according to Dealogic.
Naturally, some dealers have fallen away from the market. The last few years have been marked by firms such as Royal Bank of Scotland, Credit Suisse, UBS and Deutsche Bank all rowing back from involvement in emerging markets to varying degrees as they prioritised reinvestment, or in many cases fire-fighting, in other parts of their empires.
Despite that, the banks competing for what, compared to some markets, is a dribble of business number in their teens, are taking on what many acknowledge to be the two dominant forces: JP Morgan and Citi. Still more banks are looking to break in to the market too.
Redeeming features
Their incentives for doing so vary. Firstly, there is a belief volumes will rise. One head of CEEMEA origination at one of the market’s top banks predicts total CEE corporate issuance will rise to over $15bn this year. He thinks a last chance to raise cheap money before the US raises rates too far and the gradual reintegration of Russian borrowers will drive supply.
Russian bond issuance from all sectors hit $52bn in 2013 before plunging to $10bn, $3.75bn and $13.9bn in the next three years respectively. “Corporate issuance in Russia is thawing — the Gazprom deal was evidence of that,” says a head of syndicate at one firm in London referring to the gas giant’s $750m 10 year bond from March, which was followed by a £850m ($1.1bn) April 2024 bond soon after.
Indeed, all of the bonds from CEE corporates this year of benchmark size in euros or dollars, at time of writing, have come from Russian issuers, while total issuance from the country stands at $8.3bn so far.
“If you aren’t sanctioned, you are privately owned and have a good business, there is no reason bond deals can’t be done,” says one head of EM origination at a mid-table US firm.
Then there are the many redemptions of bonds issued in the boom years that will need refinancing. Of the $99bn of bonds issued since 2009 analysed for this article, $11.2bn will redeem this year, and apart from the $7bn scheduled to repay in 2019, redemptions come in at between $12bn and $15bn every year until 2023.
For the big firms, bond mandates seem to roll in regardless, almost, even if they are not making loans to borrowers, for which a bond mandate is an established reward. “We lend smart and selectively,” says Stefan Weiler, head of CEEMEA debt capital markets at JP Morgan in London. “Issuers certainly do not want to sacrifice execution but at the same time they still need to reward their lending relationship banks. That means there will often be a place on a mandate for non-lenders with the capability and platform for bond distribution, so that borrowers can achieve best execution.”
One senior business head for the region familiar with the top two put it to GlobalMarkets more bluntly. “Those borrowers have to have one of the top banks on the mandate to get best execution,” he says. “If a deal goes badly, that funding official will have to explain to his management why he didn’t hire a top firm.”
But banks underwrite less per deal than they used to and so earn less in fees on each mandate. Last year, average notional per deal per bookrunner of new benchmark CEE corporate bonds in euros and dollars was $207.7m. That is down from $257m the year before and $234.6m in 2013.
At the same time, it is not a cheap business to be in. “You need full coverage,” says one head of EMEA syndicate at a firm looking to make a push into the CEE market. “You need bankers on the ground and a pretty much full time DCM staff at headquarters. Then you need an active emerging markets syndicate desk as well as trading and sales. It is a full service area. There are a lot of mouths to feed for so few deals.”
ALMs race
That means firms need to be smart in winning business. Refinancing is king for CEE corporates, especially with rates more likely to go up on dollar debt than not. This has sparked a spree of refinancings from the region, often part of an asset-liability management (ALM) exercise involving buying back existing debt as borrowers look to lock in low funding costs.
“A lot of the very high volumes of bonds that printed in 2012 and 2013 were five year bonds,” says Weiler, “so it is natural that issuance generally is now driven by refinancing activity, which means that many deals now include a parallel liability management transaction.”
Of global emerging markets bond supply last year, half was refinancing, according to one senior banker at a major global house. “If you look at the CEE volumes, which primarily means Russia,” he says, “something like a third to half of all new issuance comes along with a tender offer.”
And it is here that some banks are putting up a fight to win more mandates, hiring not just debt capital markets bankers, but teams of asset and liability management and ratings advisory staff to give their shop the edge in pitches as companies try to smooth out their redemption profiles to keep credit ratings up and funding costs down.
“Clients… expect banks to commit dedicated resources for best advice on liability management or credit ratings projects,” says Weiler. “Whereas most, if not all, of our competitors outsource these services to teams that see EM as a second priority, I have dedicated resources for ratings and liability management sitting in my team, which definitely provides a competitive advantage.”
But securing bond mandates for those not blessed with a monstrous and storied global emerging markets business is still a fine way in to the CEE market, even if it is a tricky course to steer. “The incentives for a bank to be in the CEE bond business are less transparent than, say, the Middle East or Turkey where it is clearer what you will get out in regards to what you put in,” says the EMEA syndicate head. “But if you have given a borrower liquidity somewhere, then the bond mandate is your payout.”
That is, of course, if the bond actually comes with fees. “You do hear of deals being done for no fees every now and again,” he adds, “but for CEE corporates, the fee discussion is less aggressive than it is for their sovereigns.”
Those sovereign bonds are also key for a bank looking to put its name up in lights among CEE corporates, which is why dealers need the full suite of expensive staff.
With the government so often the biggest issuer in each market, a few deal tombstones from the sovereign on one’s desk is a quick way up the league tables to demonstrate relevance, knowledge and commitment to a corporate looking for bond market access.
“The recipe for success is having a platform and coverage depth that can successfully service both, sovereigns and corporates,” says Weiler.
Then there is the trading in CEE debt itself, which can more than pay its way. “There is money to be made on the trading side where liquidity is reasonable enough for you almost to be able to run a prop desk,” says one senior capital markets banker at a firm looking to push into the sector. “It isn’t a badly traded market at all.”
The bigger picture
Of course, being in a conversation about financing through bonds or loans for CEE corporates also means banks bring up the real money spinners — IPOs and derivatives solutions.
One US bank involved in CEE corporate bonds but neither a top dealer nor a big lender said his firm and a number of competitors who have scaled back their involvement would now only get involved in bonds for a company if there was no cost or if it provided a future opportunity to work on an IPO or a trade sale. “Being one of six on a bond mandate as reciprocity for doing loss-leading loans doesn’t get you paid,” he says.
Like IPOs, derivatives solutions can also pay. Providing corporates with structured trades to make their finances more efficient gives banks another chance to charge fees and, some cynics would say, squirrel a little (or a lot) extra away amid the fog of financial complexity that these trades arrive shrouded in.
“Bond fees are probably only about 20% of what a bank makes from being in the business,” says the EMEA syndicate boss looking to barge in on the CEE market. “The structured side — making things more efficient for a client using derivatives and so on, which all goes together as part of the whole, is where the money is — it’s not just about the $1bn bonds you see.”
A senior origination banker at one of the top firms for CEE corporate debt confirmed that there was big game to be felled from the derivatives business for CEE corporates. “The trades are significant,” he says.
But the reality is more nuanced than assuming any joker with a fully populated zloty curve and Warsaw’s top corporate treasurers on speed dial can sit back and watch the cash roll in. “These are elephant trades,” says the senior origination banker. “You see just a few each year.”
This makes the profits they generate volatile, unpredictable and uncomfortably lumpy — not an exciting cocktail for banks worried about returns on capital. Certainly, dealing in complex structures with CEE firms is not a cheap use of resources.
“It depends how quickly you can offload the risk once you’ve executed the client-facing trade,” says one head of EM origination at a mid-tier US firm. “If it sits on your book and the market goes against you — and emerging markets are fickle — you can lose a lot of money very quickly.”