If a company is presented with an each-way bet on equity investment from public listed markets or private capital, is it worth going through the hassle of seeking a public listing? Do companies garner any real benefits these days? I mean really?
Are stock exchanges a capital-raising anachronism in an environment where there’s a prodigious amount of private capital out there? And in today’s world of off-exchange venues and dark pools, liquidity fragmentation, complex order routing and ultra-low latency is the secondary business also swerving around them?
Trading data suggests it is. In this broad context, I was curious to see the shot in the arm the listed world received from a recent paper on the role of stock exchanges by Norges Bank Investment Management. NBIM manages Norway’s mega US$875bn Government Pension Fund Global, the largest sovereign wealth fund in the world. It certainly didn’t pull any punches, although perhaps unsurprisingly for a long-only fund manager that focuses on listed stocks, it came out in support of the role of exchanges as regulated marketplaces that police listing privileges, and facilitate funding and price discovery.
But how much of the latter do they actually do? If public listing is all it’s cracked up to be, why is such a big chunk of corporate Europe unlisted? I loved the provocative blog penned recently by Tom Joyce, former 14-year Merrill man, former chairman and CEO of Knight Capital Group and now executive chairman of Arxis Capital (the firm set up last year by former employees of BAML’s quantitative equity market-making business).
“Despite the NYSE’s recent outage, which lasted more than three hours, the flow of capital in the US markets went on almost unimpeded, as the other stock exchanges stepped up and filled the void, providing a wonderful testament to the strength of the US stock markets. But it also showed that the power of the big exchanges has truly faded, both in their importance to the investing public and in their former role as the key place to facilitate capital formation.”
“What happened if you had an outage and nobody cared?” he posed. A rather chilling thought for venue operators, isn’t it?
On price discovery, Joyce was equally forthright. “Doesn’t the NYSE contribute mightily to capital formation is the US?” he asked. “That also has changed dramatically. Think about it: private equity and venture firms have assets under management of close to US$4trn. With use of leverage, that gives these firms buying power in excess of US$15trn. With the entire market capitalisation of NYSE-listed shares at US$20trn, one can see that providing capital to the market has also been fragmented. Capital formation now has competition. The beneficiaries here are the entrepreneurs driving the most exciting parts of our economy.”
Public/private battle
To go public or not to go public was one of the sub-themes that NBIM touched on in its paper. It’s concerned at what it sees as the fall in the number of listings in the US and Europe in recent years but makes some odd conclusions, in my view. “Have [stock exchanges] managed to maintain an attractive public listing/liquidity premium, or has venture capital and private equity won the race? Are IPOs for cashing out or for raising capital?” it asked. I did wonder if the answers to all those questions are in fact in the questions themselves.
“Exchanges need to ensure that the liquidity risk premium that is available from listings is maintained, versus the increasing amounts of capital available through venture capital and private equity. We do not believe economies benefit when going public simply means cashing in, rather than raising capital. We encourage exchanges to develop new solutions in this area, be they in the form of new listing classes, or potentially even a return to local exchanges,” the paper said.
It called on exchanges to safeguard and enhance the liquidity risk premium, which it views as a “key value proposition”. It also contends that exchanges are ultimately a key arbiter of prices in capital markets, acting in the interest of all investors – retail and institutional alike.
I was intrigued about its comments about the number of listings so I took a deep dive into IPO data for the past 15 years across EMEA, the US and Asia-Pacific and frankly I’m not sure you can draw any real trends from the numbers. One thing’s for sure: private equity, no matter how much NBIM dislikes it, has offered a vital lifeline to the IPO business. And yes its end-game is absolutely to cash in as opposed to raise capital. Why should this matter? SME equity financing may nominally be a plank of the EC’s plan for Capital Markets Union but where are the corporate equity financing initiatives?
Under the radar
Is private capital in any case a better option for early-stage capital formation? Companies are able to grow and transform away from the glare of public scrutiny and, propelled by the discipline [albeit self-serving discipline] that financial investors bring to the table, raise capital from public markets only when they’re ready to do so.
The elements that NBIM list as benefits of going public – improving a company’s operations; transparency around corporate governance; analyst research and media scrutiny – are the exact same reasons that private equity managers ascribe to the benefits of private solutions and taking companies private.
In any case, the number of companies going public and the amount of cash raised in aggregate waxes and wanes with broader market and economic trends, as you’d expect. There was a slump after the Internet bubble burst (2001-2003); a dramatic run-up in the credit bubble years leading to the financial crisis (2004-2007); a post-crisis slump (2008-2009); followed by banner years in 2010 (thanks to China) and last year (a more balanced global picture). This year looks like it’s shaping up to be a so-so year for new listings.
Block venues
As algorithmic trading takes hold, NBIM, like many other large buy-side shops, has started to shift to more block executions. It said this reflects an increased willingness to take on opportunity cost in exchange for lower market impact cost. “Market-wide, we see that block crossing networks and dark volume continues to increase as percentage of trading volumes. Similarly, there is increasingly more reliance on closing auctions. Both NYSE and LSE have announced the introduction of mid-day batch auctions. We are supportive of initiatives that slow down the clock, reduce complexity and allow for larger buy-side to buy-side matches to take place.”
In this general environment, you’d imagine that initiatives like Luminex Trading & Analytics, the blocks venue owned by nine major US investment management firms that manage 40% of US fund assets and the Plato Partnership in Europe, will thrive. NBIM is part of the Plato Partnership, a not-for-profit consortium of 13 banks and asset managers looking to build a utility for anonymous execution of large equity block trades, and will no doubt have been delighted with Plato’s tie-up with Turquoise, the dark-pool operator 51% owned by the London Stock Exchange with the rest owned by 12 investment banks (many of which also in the Plato consortium).
Plato, a non-profit venture just like the Neptune corporate bond-trading initiative, will make a concerted play for the market for large equity blocks. The race to garner this flow will become intense as Mifid II rules around pre-trade price and volume data kick-in in 2017 and in effect kill off a lot of dark venues. Large blocks are exempt.
Initiatives like Plato play right into NBIM’s recipe to help exchanges re-assert their central role: “they must adapt and innovate to enhance their attractiveness to institutional investors who have supplanted the many small retail investors that exchanges were originally designed to serve,” its paper said. The fund manager doesn’t think the process of equity-market institutionalisation has been adequately reflected in changes to market structure. “The next frontier in market structure development, in our view, is the adaptation to the needs of the current investor mix”.
