IFR Mexico Roundtable 2016: Part 2
IFR: What about the cost of funding in the local markets versus what you can get abroad in dollars?
Garcia Moreno, America Movil: We did have a bond transaction this year which was for our cell tower company Telesites, or Opsimex as the operating company is called. We looked at the price of funding abroad and in Mexico. We got an investment-grade rating for the company. It was limited: a Triple B. But it makes a lot of difference in the Mexican case, because it opens more doors to funding than if you are not investment-grade internationally. At the end of the day we decided not to go to the international markets, and we funded all we needed – which was effectively Ps20bn – in Mexico. The shortest tenor was five years. It was fives, 10s and 15s.
The point is that the local market has become an interesting alternative option, but it is one that you need to develop. And you need to get in front of investors, explain the story and work hand-in-hand with the rating agencies. The first funding we did was the largest ever in Mexico for a corporate. This was barely investment-grade on the international scale, but it was a sufficiently good rating that all the institutional investors in Mexico could participate. It was very cost-efficient.
IFR: Is more regulatory flexibility required in the local debt market?
Cortes, CONSAR: This year we have tried to include more vehicles in which Afores can invest. For us, it was important that they have more diversified portfolios and that they have access to higher-yielding bonds and infrastructure investment vehicles better suited for long-term investments. This gives the market more stability and prevents participants from being focused just on short-term investments and allows them to better match assets with liabilities of the workers.
It is challenging, however. This year we incorporated infrastructure vehicles and a new energy financing vehicle called a Fibra E, or MLPs, [into the list of securities allowed to be bought by pension funds]. We want to ensure that, as we open pension funds’ access to new securities, they are also capable of analyzing these credits. We don’t just want to open the market. Parallel to that, pension funds must show they have these capabilities.
[In the past] Afores mostly depended on ratings received from agencies, but they didn’t have a local team to do the credit work or have guidelines on investing in these instruments. They are now trying to close that gap. Our goal is that they have investment guidelines, much like international funds do. Most Afores are in the process of changing their infrastructure, implementing new systems and building stronger teams of analysts.
Their traders now have to have international qualifications such as a CFA. So standards are higher than they were before. We now follow how they make investment decisions on their committees.
IFR: What about investment options for pension funds? Are there enough given the slowdown in issuance?
Cortes, CONSAR: The problem is that there are too few investment options. For example, in 2013 there were just three IPOs launched, and in 2014 there were just four IPOs. Even though we allow Afores to invest in these securities, there aren’t enough offerings.
There are also other restrictions on how they can invest abroad. Now foreign investments are limited to 20% [of the portfolio]. Compared with other international investors, it is small. In the rest of Latin America, those restrictions are around 40%–50%, and here it is just 20%.
It is important Afores have more options abroad, because the average rate of growth of portfolios is 17% per year, and if pension funds continue to focus mostly on the local market, it will have an important impact on the prices.
IFR: Going back to the issuer side of the equation, the local government Treasury, or Mbono, market is already populated by both foreign and local investors. What is being done to develop the corporate debt market in the same way?
Caraveo, Pemex: With the help of the Ministry of Finance, they put together the Euroclearable Cerbures to develop the local market in Mexico. We are the biggest issuer of peso-denominated debt in Mexico [for corporates], and at the end of the day you need international investors to come to the market.
The Mbono story is a very good story, and the Ministry of Finance is trying to develop this for corporates as well. This is the way to develop the market: to have that price tension between Mexican and international investors. All the FX volatility this year of course has complicated the story for foreign investors. We roadshowed to explain the story of Euroclearable Cerbures, and were the first corporate to come with this instrument.
Diaz de Leon, Ministry of Finance: Global market conditions have allowed for the internationalization of the government’s debt market. We have seen a very strong presence of foreign investors, but that has not been the case in the corporate market, and the challenge is: how do we make the corporate market as dynamic and as liquid as the public sector debt market?
In that respect the Euroclearable Cerbur is one important step. It is not only Euroclearable, but it also qualifies for Clearstream now. It is important that we get corporate paper in fixed-income indices [and qualifying for Euroclear or Clearstream will help toward this]. And that is the way to go: to have broader diversification and to allow international investors to have a way to put money to work in the corporate spectrum and enhance liquidity.
It is not a magic trick that will change everything from one day to the next. But if you don’t have the highway, you can’t move from one place to the other. You first build the highway, and then create the incentives for that flow to take place.
There are now two options [to issue peso-denominated corporate debt internationally]. If you want to market the security in the US, you have to file there. This is cumbersome because you have to do the external filing. Alternatively you can list it as Euroclearable, not actively market in the US, and do the local placement here in Mexico. And for a lot of corporates, that [local option] is going to be an attractive opportunity. This is very important, because spreads won’t be as low as they were before and it won’t be as easy for corporates to issue abroad. So we need to focus our attention on the local market.
There is a challenge of better matching our institutional investors, our pension funds, and our corporate sector in the fixed-income market. We need a better credit ladder of issuance, of companies coming to market. I think having external investors being able to make an investment decision in those types of securities will help.
Garcia Moreno, America Movil: The development of institutional investors, particularly the Afores, nearly 20 years ago has been a very powerful means of increasing local financial savings. One of the challenges is to be able to distribute this savings among different types of companies. Some corporates have trouble accessing the international markets, but they can’t access the local markets either, even though there is plenty of demand by local investors. We have to find ways to enable local issuers to tap those pools of local savings.
When we started doing some europesos transactions in 2005, we saw then there was a complete disconnect between the pricing you would get in Mexico and the pricing you would get from foreign investors for the same securities and tenor. I don’t know if it is a regulatory issue or not, but it is clear that at times there are important discrepancies.
We thought it was important that the local market was more influenced by international investors. From the point of view of the issuer, it was a good way of having more price tension between investors. We believe the participation of international investors is here to stay, but it will come in waves. I don’t see the world going back to investing only in hard currencies. Local currencies are here to stay, and it is important to have a format that enables this combination of foreign investors and local investors to thrive.
IFR: How much will America Movil lean on the local markets for its funding needs next year?
Garcia Moreno, America Movil: We set up this SEC peso-denominated bond program nearly three years ago, and we said we intended to raise Ps100bn over five years. We have done Ps45bn pesos so far and will probably do another tranche before the end of the year. We will do two or three tranches next year, because that is the way we have been doing it.
Werner, Goldman Sachs: A lot of work still needs to be done in getting foreign investors to come to the local corporate debt market. Executing a peso bond in the international market is still difficult. We did a peso bond abroad for a Mexican tollroad company called RCO, and it was a challenge to place that bond. However, RCO has placed debt in the local market very successfully. You see very little [corporate] peso paper being placed abroad, and I think that has a lot to do with liquidity.
Foreigners hold about 70% of the government’s Mbonos, so they are clearly very comfortable managing peso and interest-rate risk. The challenge is making them more comfortable with local-currency corporate paper. If we can succeed there, it would be fantastic for peso-based companies that don’t want to go to the international markets and take on dollar debt.
Sometimes those companies want tenor, and it is easier to get size in a 10-year bond placed abroad than going to the capital markets in Mexico. However they need to swap [back to pesos], and that swap consumes credit lines. And it is not cheap, so it is complex.
Consar, Hacienda and corporates like America Movil are focused on trying to make this [international peso] market work. This is not something that will be fixed overnight, but if we can develop the infrastructure to bring in even a tiny bit of the [international] demand for Mbonos, and move that to the corporate market — especially longer tenors — it would be huge.
Secondary-market liquidity is also crucial. [Development bank] Nafinsa’s mandate has changed over the years, but in the old days it used to be a market-maker for the stock market. Perhaps a role like that in the corporate bond market would guarantee liquidity. We really need to think outside of the box.
IFR: So is the crux of the problem illiquidity?
Garcia Moreno, America Movil: It is interesting because the fact of the matter is that corporate debt most everywhere is not very liquid. If you want liquidity, you go to the sovereigns. So when people complain about a lack of liquidity, it is a matter of perception. They are comparing it with Mbonos, which have more liquidity than you would have in any corporate name. You can have this mitigated by having a group of market-makers, which is what America Movil has done.
However, generally there has been a significant reduction in the capital allocated for market-making, especially over the last couple of years. So yes, you are seeing a world with less liquidity. Banks are carrying less inventory on their books. That is a fact of life. Whether it is in pesos or in dollars, or in sovereign or corporate debt, there has been a sea change in the last two or three years.
That is unlikely going to change. In the Mexican market you look at the paper bought by Afores, and it effectively never trades. And it never trades because, for the most part, Afores are buy-and-hold investors. So when you want to have better liquidity, the first thing to do is to bring in different types of investors. Because if for example it is only Afores, they will all buy and sell at the same time. So you need to have Afores, yes, but you need to have long-term international investors because they think differently. You may need to bring in some banks, and some more retail accounts.
Bringing in more retail investors is one of the challenges. You see a lot of people in Latin America, and Mexico is not an exception, who buy a lot of the dollar and euro denominated bonds issued by Latin American corporates. Could these [retail] investors buy more Mbonos in pesos? And if that is the case, couldn’t that be applicable to a company like America Movil? I am sure many investors buying our dollar and euro denominated debt are based in Mexico.
IFR: The local market is still awaiting Mexico’s first Energy Investment Trust Funds (Fibra Es), a sort of master limited partnership, which are expected to help raise funding for Mexico’s growing infrastructure needs. Will Pemex come with the country’s first Fibra E?
Caraveo, Pemex: We had been a monopoly for the last 75 years, and now we are two years out of that monopoly. So we have an inventory of mid-stream and down-stream assets all over Mexico, but there is still a lack of infrastructure in the energy sector — and these Fibra Es will help.
We see it as a replication of an MLP with Mexican rules. It will be another way to fund ourselves, to capitalize our assets. You know mid-stream and down-stream assets are very depreciated, but they can still get a lot of value out of the contracts. The idea is to put something together that will appeal to both national and international investors. It will be regulated like a Fibra (a real estate investment trust). There will be a tax advantage, just like MLPs. We are working very hard to put this together.
You have the sociedades promovidas which will be the owners of the assets. We are taking steps with regulators to have these contracts booked. Investors want to see cash flows and drop-downs. The story of drop-downs in the case of Pemex will be huge. We have billions of dollars worth of assets that we can put together. Shell did exactly the same thing. The EV/Ebitda ratio that Shell was trading at when it put together an MLP was six times. Shell’s MLP is now trading at 16 times Ebitda. So imagine the potential of Pemex to capitalize on these types of things.
Look at the story of IEnova (currently the only pure equity play in the Mexican market for investors who want to gain exposure to the country’s energy infrastructure story.) They are trading around 16-17 times Ebitda.
They are trading so well because there is some scarcity value. When we went on roadshows, investors would say: yes, we like your Pemex bonds, but we want equity, so show us platforms, show us refineries, terminals etc. This is the perfect instrument for these types of investors.
IFR: How long will it take for this market to develop?
Albarracin, Milbank: In Mexico, there are so many mature assets, and Fibra Es are a good thing for mature assets. The potential in Mexico is enormous, mainly because the energy sector has all these untapped assets that are in the private sector now.
In some areas maybe there is more advancement in terms of having regulated prices and a regulatory framework that would allow these businesses to be operated as private-sector businesses, whereas in other sectors there is still more work to be done in creating the regulatory framework so that you have market forces and more predictability of cash flows.
IFR: When will we see Pemex’s first Fibra-E/MLP?
Caraveo, Pemex: I think we will be ready by the first quarter of 2016. There is so much work we have to do internally and externally with regulators.
Diaz de Leon, Ministry of Finance: Clearly the new instruments are a by-product of the structural reform agenda. There is a need to deploy capital, and there was a lack of adequate vehicles to fund brownfield or mature projects and for greenfield projects.
Clearly the MLP structure goes to the first one, and would allow for the long-established public companies like Pemex and CFE to put some of those mature projects to work in private hands — and to use some of those proceeds for new projects. It will provide a lot of flexibility for those companies, and also for the private sector.
We believe it will be very useful, not only for what we have in Mexico, but also in part for the investment infrastructure working group in the G20. Globally you see this gap between large pools of money in the hands of institutional investors and the large number of infrastructure projects that require funding. There just aren’t a lot of adequate vehicles that cut and slice the returns and risks in a way to make them palatable for institutional investors.
In Mexico, there are two instruments designed to obtain that. One for the brownfield, the Fibra-E, and the other for the greenfield projects, which is the CerPi. In Mexico, private pension funds can invest in private equity, but it has to be through a listed vehicle. So we now have the listed vehicle, which is a more flexible and useful version of the CKD (structured equity securities) that allows for the deployment of resources in a way that would promote co-investment with other types of investors and moves significantly closer to the traditional private-equity structure.