BOC bond is anything but mediocre

IFR 2055 18 October to 24 October 2014
6 min read
Jonathan Rogers

I SPOKE LAST week to an Asia-based big fish DCM banker who’s been through quite a few market cycles even though he’s only slightly the wrong side of the big Four-O, who baldly stated that “all the market premises of the past few years have been called into question.”

That seems fair, at the end of a period of barely four weeks during which the 10-year US Treasury bond has added 62bp, having signally failed to pierce the 2% level which threatened with seeming certainty in September.

Federal Reserve rates normalisation? No one’s thinking of that this side of 2015, as the bleakness of the eurozone starts to infect US economic activity.

Of course, that’s definitively a bullish backdrop for rates, but it’s not necessarily the same thing for credit – even though you can’t have a rally in the latter without a benign environment in the former.

If Christine Lagarde’s “mediocre is the new norm” warning on global growth rates has seeped into the market consciousness thanks to the show-stopping, panic-inducing manner in which the IMF’s head recently delivered it, then we must be due a major round of spread-widening in global credit.

A note of sobriety was introduced into the wake of the argument left by Lagarde’s turbo-charged rhetorical speedboat via the Financial Times’ Martin Wolf. He noted last week that, even though 5% growth may seem lacklustre, mediocre indeed, it delivers you a 50% bigger economy every decade if that rate is kept up.

Never mind that. It’s panic stations everybody, starting with equities. German stocks are down 12% year to date in euros and a horrible 18% in dollar terms. Credit should be the next shoe to drop.

But it didn’t seem that way if you were watching last week’s extraordinary Additional Tier 1 trade for Bank of China. At US$6.5bn, this represented the biggest preference share exercise ever delivered and moreover via a structure which is far from straightforward.

MY BANKER MATE who wasn’t on the deal was full of praise for it, although it wasn’t that way in some quarters. Indeed, full-on bitching was the mode at houses more worried about their own bank capital pipeline.

Deskers at these banks were of the opinion that the prolonged execution period of the BOC deal and its relative transparency had screwed up their chances of getting their paltry – in relative size terms – trades away.

They might well have a point, since BOC’s deal followed the route most usually travelled by Indonesia in bringing big public offshore deals. That means introducing price talk early on in the process, in theory compromising price tension and giving potential customers a target to aim at which pushes other mooted primary deals to the sidelines.

The reality, though, is that you couldn’t keep your hand entirely hidden with a deal of such size and relative complexity, targeted at a specialist investor base. Talk for months had been of a deal in the 6.5%–7% ballpark and to get such humongous size away at last Wednesday’s final 6.75% print level strikes me as rather impressive.

At least, it does for now. But, according to the big fish, much will be decided by the secondary price action of the newly minted paper. And that is not likely to be a straight path, at least judging by a day and a half of trading price action. The hedgies had a go at it early last Thursday In Asia hours, knocking it back to a 99.5 bid off a par reoffer. Then the friendly faces of Asian retail pushed it back up a touch to 100.75, only to see the broader market consensus make it 99.75–100 as Thursday’s trading session wound to a close.

Much will be decided by the secondary price action of the newly minted paper

BIG FISH SAYS if the paper should shed two points in secondary over the short to medium term, then those who would wish to promulgate the BOC structure as cookie-cutter for the primary China bank capital complex will have to go back to the drawing board.

I also wonder how many of the almost ludicrously diminutive 120 investors in the BOC deal – off a Reg S trade that had to be sold to less than 200 accounts to satisfy the Chinese financial authorities – were “friends” if not family. So the China Lifes of this world, who I assume stepped up with quasi-patriotic tickets, will indeed be watching this item as it trades.

The key might well be private bank clients globally, and those who reckon they’re sharp on credit work. Good luck to them. A point of non-viability clause kick-in will see the whole deal converted from US dollars into renminbi-denominated equity. Not what you want, but maybe it’s better than a full writedown.

As we navigate through yet another choppy October, it will be terribly interesting to see just how this BOC deal fares. If it proves to be remarkably robust amid the surrounding turmoil, as I suspect it will, the deal represents yet another step in the transfer of financial clout from West to East.

We must expect more. After all, even if global credit spreads follow Madame Lagarde’s script of doom and widen, a huge bank backed by China Inc looks rather attractive. I doubt holders of this fresh deal who booked it with a view to owning the paper to maturity will ever end up as accidental owners of BOC equity. Even if the new mediocre really is the new black

Jonathan Rogers