Sunday, 22 July 2018

Domestic Asia thrives

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Asian domestic markets have come into their own since the global financial crisis emerged, with deals printing throughout the region, while G3 issuance has slowed to a trickle. As regional financial regulators sing from the same hymn sheet on the urgent need to develop onshore debt markets, higher issuance volume and depth of secondary liquidity in these markets seems inevitable. Jonathan Rogers reports.

The US$15.4bn total of G3 issuance from Asia (ex-Japan, ex-Australia) is a grim tally for the region’s struggling DCM bankers, who are desperately trying to justify their existence. This is the lowest total in five years, and pales in comparison to the US$51.5bn brought last year.

But Asia’s domestic bond markets tell a different story. Some US$121.4bn-equivalent has printed in the year to date, with the region comfortably on track to beat last year’s US$140bn total. Moreover this outpaces by a considerable margin the US$70bn-equivalent which has printed in the region’s domestic markets on average over the past five years.

Perhaps most tellingly between June and November last year, when sub-prime emerged, a remarkable US$74.7bn-equivalent of Asian domestic bonds were sold, via 870 issues, according to figures from Thomson Reuters. This represents a fourfold increase on the US$18.1bn sold through the 63 deals achieved in the G3 market.

In the year since sub-prime hit, the region’s domestic markets have remained open and liquid throughout. Conversely, G3 has staggered, seemingly on its last legs. This hints at the long-term secular growth trend of the Asian domestic bond markets.

Keeping it simple

Underpinning this trend is what the Monetary Authority of Singapore alluded to as “the region’s conservative approach to reforming the domestic bond markets.” It results in an a stock of largely vanilla debt outstanding, rather than a ream of bafflingly complex structured products that might at the most be worth 20 cents on the dollar – as is the case in the US and European bond markets.

This year, China held on to the top spot in terms of issuance volume. Its US$ of deals for a 31.2% market share seems likely to improve this year on the US$56.3bn-equivalent which printed from the country in 2007. This is the third year in a row China has topped the domestic issuance tables, having displaced South Korea, which for the previous seven years was the biggest domestic bond market in the region.

The introduction of an MTN market in April helped boost the issuance tally, with Chinese corporates rushing to take advantage of the relative ease of issuance, cheap cost of funds and broad investor base. It saw a hefty Rmb73.2bn (US$10.7bn) printing in just two months. That issuance has stalled, thanks to infighting amongst the financial regulators, but issuance from the enterprise bond sector is holding up, as evidenced by a stunning Rmb20bn (US$2.9bn) 10 and 15-year brought at the end of September by the Ministry of Railways. That deal managed to print 10bp inside one-year Shibor. Meanwhile, in the US and Europe, borrowing costs were rocketing by the day and overnight Libor breeching 7% as banks refused to lend to each other.

Issuance from South Korea, at US$15.6bn-equivalent, puts the country second in terms of issuance volume so far this year, with India third on US$18bn-equivalent. In Korea, corporate issuance has dominated again, as G3 bond markets have remained shut to anything other than the highest quality investment grade names.

Indian issuance has benefited from the closure of G3 public offshore markets, with borrowers forced to look onshore instead. Meanwhile a rise in the ceiling on investment by FIIs (foreign institutional investors) to US$3bn-equivalent from US$1.5bn-equivalent in May helped boost demand for Indian domestic corporate paper.

The Malaysian ringgit domestic bond market is the most interesting story of all the region’s domestic bond markets this year: South Korean banks have been lining up to tap into the country’s ample liquidity and book a benign basis swap from ringgit back to dollars and into won. Some US$10bn-equivalent of deals has printed this year in the Malaysian domestic market.

This rush into Malaysia underlines Korean banks’ increasing willingness to explore alternative avenues of funding. The ringgit joins a growing list of domestic market forays, including issuance in the Brazilian real, Turkish lira and Mexican peso. But the ringgit issuance came in the first half, with recent market turmoil in Korea, thanks to a plummeting Won and a shortage of onshore liquidity, prompting the ratings agencies to lower the financial health ratings of the country’s largest commercial banks.

Nevertheless, the relatively small size and illiquidity of the onshore swap market meant that the basis advantage was volatile for much of the first half. Dealers were reluctant to take on large positions, underlining the fact that regional domestic markets will remain largely vehicles for onshore borrower issuance until their swap markets develop depth.

In the mid range for volume are Taiwan, Singapore, Hong Kong, Thailand and the Philippines. The latter market shows the most progress in terms of being able to handle size, with some chunky FIG deals printing for the likes of Banco di Oro, Philippines National Bank and Rizal Commercial Banking Corp in the first half. Banco di Oro followed this up a few weeks ago with a Ps5bn (US$107m) hybrid Tier 1 debut, in a deal which showed clearly the resilience of Asia’s domestic bond markets. G3 Tier 1 issuance from Asia would be unthinkable in the prevailing, deeply risk-averse climate, and no issuance in this asset class has been brought from Asia this year.

Meanwhile as the threat of widespread default looms in the US and Europe, Asia’s redemption calendar seems unlikely to pose any significant problems. According to data from Thomson-Reuters, at least US$11bn-equivalent of local currency bonds are due to mature in the last quarter of 2008 in Hong Kong, Singapore, South Korea, Thailand, Taiwan, Malaysia, Indonesia and the Philippines.

But much of this has already been refinanced: borrowers hit the market earlier this year, when issuance conditions were much more conducive.

In Malaysia and Singapore, most of the imminently maturing deals are relatively small, in sizes of below M$600m (US$172M) and S$1bn (US$646m). Issuers eyeing refinancing are not expected to face major problems if they decide to tap the onshore bond markets. Issuance conditions have improved in the ringgit market since the government last month axed the windfall tax, and the Singapore market remains liquid.

In India Rs31.7bnm (US$690m) is maturing this quarter, although again, much of this is in small size and the redemption schedule should prove an easy hurdle to jump over.

A collective approach

Looking ahead to the next few years it’s likely that Asia’s domestic bond markets will get a significant boost if the latest plan from the Asean +3 Asian Bond Market Initiative (ABMI) – to establish a regional bond settlement mechanism – is put into action.

Of the Asean countries – comprising Brunei, Cambodia, Indonesia, Laos, Malaysia, Myanmar, the Philippines, Singapore, Thailand and Vietnam – only Malaysia and Singapore have bond settlement mechanisms in which investors have full confidence, according to regional bankers. The +3 in ABMI are China, South Korea and Japan: each has well regarded settlement mechanisms.

Cambodia, Laos and Myanmar lack domestic bond markets, while Vietnam’s fledgling bond market has been explicitly hampered in its growth, due to investor fears that its settlement system is not safe.

To get around the risks of the current settlement mechanism in Vietnam – which involves the setting up of an onshore custodian bank account and exposure to the attendant risks of the onshore banking system – bonds have often been issued in credit-linked note form. Alternatively, investors have taken exposure via total return swaps. Deutsche Bank took this route in March 2007 with its D3trn (US$187m) 10-year issue for Vinashin.

“There have been suggestions over many years to set up some kind of ‘Asia Clear’ and now the time has come to examine the business case in depth,” said Jong-Wha Lee, head of the Asian Development Bank’s office of regional economic integration. “If it looks worthwhile, we will make recommendations based on a broad consensus of national and international players.”

The initial proposals under consideration include the establishment of an international securities depository and a special purpose “Asian payments bank” to eliminate settlement risk on foreign exchange transactions.

The model for the Asian securities depository is Euroclear, which was established in Brussels in1968 by JPMorgan. Euroclear was instrumental in boosting the development of the Eurobond market, from its early buccaneering days at the start of that decade through to its maturity as a multi-trillion market underpinning the European Union.

“Clearly the underlying agenda on this latest ABMI initiative is regional economic integration among Asean members, with the European Union a clear model to be emulated. While such a union is years off and perhaps a non-starter due to regional cultural differences and divergent levels of democracy, sorting out a settlement system in which investors have full confidence is crucial to the growth of Asia’s domestic bond markets,” said a regional DCM head.

With the Asian domestic bond market growing rapidly and having tripled in size over the past five years, the time for an Asiaclear system is well overdue and its implementation is likely to significantly boost this steep growth trajectory.

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