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Wednesday, 18 October 2017

DCM 2007: Power of the Samurai

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The sub-prime problems had much less of an effect on Japanese markets than those in the US and Europe. Nevertheless, conditions changed significantly as a result. A wave of renewed liquidity in September saw a rush of foreign supply as investors proved themselves still amenable to bond issuance, albeit at significantly wider spreads than previously. Atanas Dinov reports.

September’s weather was unusually hot and so was the Japanese credit market. While European and US markets remained volatile, primary bond spreads in Japan widened much the same as elsewhere – in fact, they doubled for many domestic names – but investors remained willing to buy.

It was towards the end of August that the sparks of recovery appeared on the domestic front and the first week of September saw a record amount of domestic primary bonds issued.

Data from Thomson Financial underlines this domestic intensity: ¥1.11trn of primary domestic straight bonds appeared in July, ¥328.9bn in August and ¥1.16trn in September.

Although it was the domestic market that first exhibited the signs of regeneration, global financial institutions were quick to seize the opportunity to tap into the high levels of liquidity available.

But that is not to say that investor sentiment and general conditions had not changed significantly from the halcyon days of late May to early July when there was plenty of new Samurai supply, particularly from US borrowers. Samurai issuance from US names accounted for 63%, or ¥1.003trn, of the total of ¥1.634trn launched in the year to the end of September.

While the European arena was battered by one negative headline after another and conditions in the US remained difficult, the Japanese market offered fund-raising possibilities throughout, although a hefty premium was demanded in return.

Citi (Aa1/AA/AA+) has been the major trend-setter this year and its experiences offer a market snap-shot. In early September it reopened the yen market for international issuers with its ¥250bn five-year Global floating-rate-note priced at 45bp over Libor, considerably wider than its June five-year Samurai which came out at plus 11bp.

Morgan Stanley (Aa3/AA-/AA-/AA) trailed Citi’s later effort with a ¥40bn five-year Euroyen comprising fixed and floating parts and pricing at 65bp over Libor. Only a day later, however, in what some bankers in Tokyo called ‘a secret issue’, a mammoth ¥200bn five-year Euroyen FRN emerged with a 5bp premium on top of the earlier trade, bringing the spread to plus 70bp.

After waiting for its American peers to test the market before pushing ahead with its own fund-raising activities, Bank of America (Aa1/AA/AA) brought another enormous single-trancher, a ¥230bn five-year floater. This priced at 45bp over three-month yen Libor.

At the time, speculation was that one or two large investors were driving demand for this massive issuance and unconfirmed street rumours were that significant portions were placed with big US and European accounts. According to both Citi and BofA, however, their transactions were completely sold in Japan, mainly to regional banks.

In between the American transactions, Deutsche Bank and RBS emerged to take advantage of the funds on offer, both concentrating on domestic buyers. Deutsche Bank (Aa1/AA/AA-) printed a ¥147bn three-tranche Samurai. It sold ¥57bn of five-year fixed paper and a ¥60bn floater, both at 45bp over Libor, and a ¥30bn 10-year fixed piece at plus 55bp.

Eschewing the Samurai format due to its burdensome documentation procedures, RBS (Aa1/AA/AA) issued a ¥100bn five-year Euroyen at 45bp over Libor. This marked its debut in the Japanese market and around 90% of the bonds were sold domestically.

The numerous regional financial bodies in Japan have been pointed to as major buyers of FRN product, especially from American banks, which are well-recognised credits. A banker at one such institution explained that floating-rate notes provide a hedge against interest rate exposure and that the investors’ own internal structures also makes it easier for them to buy such assets.

This deep pool of liquidity offers a ready source of cash for borrowers without an extensive retail deposit base that are reliant on the capital markets to top up their funding needs. Issuance has consequently been substantial.

"Issue sizes are enlarged as the banks need the money to support balance sheets, ABCP conduits and leveraged loans that they could not place in the market," notes Tetsuo Ishihara, senior credit analyst at Mizuho Securities, on the significant sizes of the recent issues launched amid still shaky global markets. And borrowers have been more than happy to take what they can, where they can.

Chuck Wainhouse, global head of capital markets at Citi treasury, sums up the sentiment prevalent during the darker days of summer when he says: "The golden age of credit [was] no longer to be seen in the immediate vicinity."

Good old times

Even before the global liquidity squeeze took hold, it was again the American financial institutions’ Samurais were popular – and not without reason. A stand-off regarding Japan’s new paperless book-entry transfer system (BETS) had forced major US borrowers such as Citi and GECC out of the Samurai market for the best part of a year. A compromise was reached, however, the new regulations limiting US Samurais to a 10-year maturity with the issuers having to provide proof that bonds were only sold to non-US accounts through the Foreign Targeted Registered Notes (FTRN) structure.

It was in February that Merrill Lynch (Aa3/AA-/AA-/AA) became the first US Samurai issuer of the year with a ¥95bn dual-tranche five-year consisting of a ¥70bn fixed tranche and a ¥25bn FRN. Both priced at 17bp over yen Libor.

Some three months later JPMorgan Chase (Aa2/AA-/AA-) warmed up the market further with a ¥160bn four-trancher. It launched a ¥45bn five-year fixed note, priced at Libor plus 12bp, a ¥45bn five-year floater paying three-month Libor plus 12bp and a ¥30bn seven-year fixed piece at Libor plus 18bp.There was also a ¥40bn 10-year subordinated tranche priced at 30bp over Libor.

Lehman Brothers (A1/A+/AA-) then tapped the market with its biggest-ever Samurai, a three-tranche issue divided into ¥56bn fixed and ¥50bn FRN five-year notes priced at plus 23bp and a ¥22bn 10-year tranche at plus 34bp.

For its part, Morgan Stanley decided against the Samurai format when it printed ¥58bn of paper, choosing Euroyen instead for its ¥40bn five-year FRN (plus 23bp) and ¥18bn seven-year fixed note (plus 30bp).

But it was in June that Citi delivered the standout trade. Although widely rumoured as coming with a large multi-tranche transaction, it still managed to surprise some bankers with its massive, record-breaking, six-tranche Samurai, followed a day later by three more Global yen tranches.

In the three-year maturity the bank printed ¥30bn both in fixed and floating formats with pricing of 6bp over Libor, in the fives it sold ¥35bn fixed and ¥30bn floating debt at 11bp over, and this was followed by ¥80bn in sevens at 17bp over and finally a ¥65bn 10-year at plus 20bp.

The fixed-rate Global yen concentrated on longer tenors that were not allowed under the Samurai format: a ¥50bn 20-year was priced at mid-swaps plus 24bp, a ¥55bn 30-year at 30bp and a ¥40bn 40-year (the first ever) at 32bp.

At the time Citi had increased its stake in Nikko Cordial to around 68%, and bankers pointed out the rationale behind the large size was more than likely to fund the Nikko buyout.

Bank of America, seeing that there was still good demand present, then followed. Unlike many of its US peers that have large operations in Japan, it has limited distribution networks and teamed with Mizuho Securities and Nomura Securities to take the advantage of their placement capabilities for yet another gigantic ¥215bn multi-tranche Samurai.

It issued ¥75bn fixed and ¥55bn floating notes in five-years at 11bp and ¥40bn senior and ¥45bn subordinated issues in the 10-year tenor, with respective spreads of 19bp and 28bp.

Continued strong appetite in the period between mid May and the end of June produced a record amount of Samurai volumes – ¥1.037tn (US$8.9bn) was issued, while the whole of 2006 accounted for the equivalent of US$6.329bn. June was the hottest-ever month for Samurai issuance, with volume reaching ¥699bn from eight issuers. The market took it all in its stride, however.

“The massive issuance did not crash the market, the spreads did not widen,” said one banker at a leading Samurai underwriting house.

Multi-tranche issues were seen from virtually every US bank. "The multi-tranche Samurai issuance is a feature of the Japanese market and is absolutely necessary for large issues. Multi tranches with various tenors are needed to reach across the yield curve to a unique bucket of investors," notes Brian McCappin, Nikko Citi’s co-head of fixed income.

With some minor exceptions, such as Merrill’s ¥55bn 10-year subordinated offering that followed after the other banks – at the then-generous spread of 45bp over Libor – most Samurais were in multi-tranche format, employing both fixed and floating structures.

There is, of course, sound reasoning behind this decision that extends beyond the desire just to diversify into a different jurisdiction and a fresh set of investors, and that is to ensure that no sector remains untried. "For example, five-year fixed and floating issues are bought by different types of investors. There is no cannibalisation of tenors as seen in the euro or [US] dollar market. In Japan there is a fragmented liquidity landscape," says McCappin.

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