Covenants, Basel III Implications Discussed at London Corporate Bond Forum
ING hosted EMTA’s 6th Annual London Corporate Bond Forum in on Tuesday, January 29, 2013. The event drew 125 market participants, and is one of two annual forums (one in London and the other in NYC) devoted exclusively to discussing EM corporate bonds.
David Spegel of ING delivered an overview of the market in his introductory remarks, pointing out strong 2012 returns. Spegel described the increasingly important role of EM corporates in the marketplace, noting that 75% of new issuance in EM bonds includes corporate paper.
Spegel introduced the discussion by asking panelists to discuss EM corporate risks. BlueBay Asset Management’s Polina Kurdyavko cautioned attendees that the most serious concerns were often those that investors largely overlooked. In her opinion, transaction costs posed greater problems for investors than traditional liquidity concerns; and a centralised electronic platform run by an independent entity was needed for the long-term health of the asset class, rather than the current variety of competing platforms.
Covenant issues continued to pose challenges as well, according to panelists. Bank of America Merrill Lynch’s Kay Hope noted that many new issues do not include ‘change of control’ covenants, and also voiced concern that analysts often had little time to identify new issues with inadequate investor protections. Kurdyavko singled out Agile Perpetuals and Cheung Kong Perpetuals as having the worst structures thus far.
Aberdeen Asset Management’s Esther Chan urged fellow investors to demand better covenants from issuers, noting her firm has legal counsel to review all new issues. Chan also noted rotation into equity posed a threat to EM corporates. Finally, Milena Ianeva of Barclays added a sell-off of the US Treasury market as a potential risk, which is pushing investors down the credit quality spectrum, as well as Middle East geopolitical volatility.
Hope discussed investor interest in RUB-denominated corporates. Such local currency corporates look attractive, she noted, when compared to the newly-Euroclearable OFZs, although she acknowledged not all investors can access the market and there were withholding tax and documentation issues.
Basel III regulations had affected corporate bonds to some degree, Kurdyavko commented, as potential issuers were forced to seek alternatives to bond issuances. While recent relaxation of the new Basel regulations has not translated into dramatic increases in EM corporate bond issuance, there have indeed been some new first-time issuers.
On new issuance, Hope predicted $268 billion in dollar- and euro-denominated EM corporates in 2013, vs. $300 billion in 2012. 75% of that amount will be high-grade, down from 80% in 2012, she stated.
Spegel asked if panelists saw signs of a revival of Middle East corporate bond markets. Ianeva dismissed concerns of a second Dubai asset price bubble at this time, while warning that Qatar could potentially surprise the market on the down-side. The global gas market needs to re-balance in the medium term while Qatar’s efforts to diversify its economy away from hydrocarbons has presented different challenges including an ambitious investment program which has built up banking sector liquidity pressures, according to Ianeva. Overlaying the regional geopolitical risk, “I am not sure you are being paid for the actual risk you are taking,” she affirmed.
Kurdyavko expected five EM corporate defaults in 2013, a 1.1% default rate compared to approximately 3% last year. However, all restructurings are not equal, she cautioned, with creditors in Brazilian Eurobond and domestic restructurings obtaining meaningfully less recoveries than others. Chan agreed that “we need to have clarity as to investor rights in EM; we need to have greater clarity as to legal systems and how different investors are treated.”
Spegel identified 18 potential defaults in 2013, which would total $5 billion in face value, while observing that this represented less actual defaults than in 2012. Hope believed that Latin American and Asian issues were generally riskier than those in the CEMEA zone.
Turning to investment recommendations, Kurdyavko eschewed Ukrainian banks and pointed out that Indian and South African sovereign downgrades could have ripple effects. Hope favored Evraz ’18s. Ianeva spoke positively on short-dated Gazprom bonds, VTB, Russian Standard Bank, Alfa Bank and Dubai Holding, while Spegel seconded Alfa Bank, while favoring Sberbank and TMK.
Concluding the event, EMTA’s Jonathan Murno announced the results of an informal attendee poll. 70% of participating attendees did not believe the Eurozone crisis was over; 74% expected a downgrade of Spain’s sovereign rating; attendees predicted contractions of the EMBI Global and CEMBI indices in 2013 and EM corporate issuance exceeding $306 billion.