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Friday, 22 August 2014

Asian borrowers need to play the benchmark game

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Game theory has offered a neat explanation for everything from nuclear deterrence to evolution. It also explains one of the biggest problems in Asia’s local bond markets, says IFR Asia bureau chief Nachum Kaplan.

In a record year for issuance in many of Asia’s markets, the lack of benchmarks has been striking. Without liquid, corporate credit curves, it is hard for all but the best names to issue bonds, while lower-rated names have no access. If Asia’s bond markets are to truly develop – as opposed to growing slowly – then that has to change.

Singapore is a good case in point, even though it boasts one of the region’s most developed local debt markets. Temasek, the city state’s sovereign wealth fund, has played its role and built a curve from 10 to 40 years in Singapore dollars and three to 30 years in US dollars – but where is the medium and longer-dated paper from Singapore’s corporate aristocracy?

Top companies obviously know the value of being able to tap the bond market and understand the long-term value of maintaining a benchmark curve. So, why have they issued so few benchmarks and made so little attempt to rectify one of Asia’s longest-running problems?

Game theory provides the answer. Asian companies now find themselves in the exact sort of situation that game theorists relish: one in which individuals acting in their own interests create a situation that is bad for everyone. 

In short, Asian companies do not issue many benchmark-sized bonds because they have no need to do so. Even in this age of shrinking loan books, good names can tap the bank market on a bilateral or syndicated basis. Local lenders also forged an unbreakable relationship with many of Asia’s top companies in the wake of the Asian financial crisis, while the debt capital markets have been viewed with deep suspicion ever since.

This attitude has been one of the biggest constraints on Asian bond markets’ development for the better part of the last decade. There are, however, real reasons for a change.

If companies want more funding choices in the future, they need to show some leadership today.

The retreat of international lenders from Asia, on the back of woes in their home markets and tougher regulatory requirements, has highlighted the vulnerability of this once-stable source of funding. The regulatory part of this equation also means they are unlikely to return. Asian companies need to start securing more diversified funding sources.

Admittedly, Japanese – and, more recently, Chinese – banks have stepped in to fill the breach, but more robust capital reserve requirements and constraints on tenor length means the availability of bank liquidity will not be as reliable as before. Deeper and more inclusive bond markets are a big part of the answer.

Investor demand is certainly there. There are nowhere near enough bonds to satisfy demand, especially as foreign flows into Asian bonds is so high – even if part of that demand may be cyclical rather than secular.

Asia’s premier corporate issuers need to prioritise market development considerations in their funding strategies. Doing so might not always be the best financing option right now, but the pricing parameters would allow other issuers to follow, and help create a deeper market that all issuers would benefit from over time.

No one knows what the banking or credit markets will look like in a few years’ time, but for Asian companies, the more options the better. If companies want more funding choices in the future, they need to show some leadership today. A benchmark issue may not help beat the next quarter’s earnings estimates, but the long-term benefits are real. Issuers should not need to employ game theorists to see that.

Follow Nachum on Twitter @NachumKaplanIFR

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