KangaNews DCM Summit capital issuance webinar
Australia’s credit market has seen a pickup in supply of capital instruments, including a clutch of corporate hybrid transactions. The KangaNews Debt Capial Markets Summit 2020 webinar series included a session on additional capital, which focused on supply dynamics, demand drivers and the ever-present tension between retail, wholesale and true institutional participation.
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Chris Rich Staff Writer KANGANEWS
The panel convened on 3 December, after the issuance of a flurry of additional-tier one (AT1) capital and tier-two deals by regulated financial institutions in the prior few months, and just days after Ampol printed the local market’s second benchmark corporate hybrid of the year – after a long quiet period for this type of supply.
Market fundamentals seem strong for additional-capital issuance from regulated entities and corporate issuers. The impact of the pandemic is causing many issuers to explore ways of shoring up their capital positions and credit ratings that are more palatable than issuing additional equity. On the buy side, the low-return environment is causing investors of all stripes to seek higher-yielding income instruments.
Meanwhile, the ongoing absence of major-bank senior debt supply has created a vacuum in the Australian credit market that issuance of all types can seek to fill.
After a pricing lurch at the start of the pandemic period, the hybrid market was well supported in 2020 and eventually provided a more than satisfactory outcome for investors that held their nerve.
Steve Anagnos, co-head of income strategies at Shaw and Partners in Sydney, described a margin rollercoaster for bank hybrids – but one that resolved quickly and positively. From historic tight spreads of less than 300 basis points over bank bills coming into the new year, some forced selling saw bank additional tier-one (AT1) notes widen even more when the first pandemic lockdowns came into effect than they did in the financial crisis.
Unlike the financial crisis, however, it did not take long for demand support to re-emerge. Anagnos said the price drop, to around 80 cents in the dollar in some cases, “did not make much sense at the time” based on the soundness of the banks issuing AT1 securities in Australia.
“The wealth managers, who are a huge component of the distribution of hybrids, are wholesale qualified and professional – but they need the listing, which is important from a behavioural perspective. I completely agree that a listed transaction is the best supporter of volume and execution certainty.”
NICK CHAPLIN NATIONAL AUSTRALIA BANK
He added: “We were pleasantly surprised by the strong demand, not only from equity and credit investors but also new income-seeking investors that came into the asset class. These investors looked at rates of return and made the assessment that the underlying issuers are of sound quality, which translated into fantastic buying opportunities.”
Over the course of 7-8 weeks, Anagnos continues, Australian AT1 recovered most of its losses on the back of a significant secondary-market dynamic. “The short time over which this all played out gave investors confidence in the underlying structure of the market,” he concludes.
The investor support extends to wholesale buyers, according to Nick Chaplin, head of hybrids and structured capital origination at National Australia Bank (NAB) in Sydney. Traditionally a listed market, the last few years have seen the emergence of sporadic AT1 issuance in a format that precludes the participation of retail investors.
NAB itself issued two such deals in the past year. Chaplin said this was primarily to give institutional accounts access to paper they can miss out on in retail-format deals, which are often well covered by retail reinvestment and shareholder offers.
In fact, the asset class as a whole has taken on a much more wholesale flavour. “I believe 95 per cent of today’s hybrid buyers could invest in a wholesale issue – they just prefer the listing as it shows the trading position daily and very clearly. In reality, all the work we do on prospectuses and the related due diligence is largely for the benefit of about 5 per cent of buyers,” said Chaplin.
The greater prevalence of wholesale investors in hybrids may not represent a genuine shift in the buyer base so much as an evolution and maturing of the asset class. “The type of investor buying hybrids now is by and large the same as it has always been. What happened is that they are able to use them in a lot of different areas of their portfolios and as a result have increased allocations to this asset class. Access to well-diversified hybrid portfolio strategies has also made a difference,” Anagnos argued. In particular, the wholesale market has migrated from ad-hoc use of hybrids within equity or fixed-income portfolios to a greater prevalence of hybrid-specific strategies.
On the other hand, issuers are wary of committing to pure wholesale issuance. For instance, AMP Limited issued an unlisted AT1 instrument in 2012 – the first such deal in about a decade – and found the process relatively hard going. “The challenge we had back then was that the pool of investors was a third of what it would have been for a retail, listed transaction,” Jason Bounassif, Sydney-based treasurer at AMP Group, revealed during the webinar. “This means facing a market with genuine execution risk and where volume is materially smaller.”
This poses a problem for infrequent issuers in the format, as many banks are. AMP is a relatively prominent AT1 issuer yet still only expects to be in the market every two years on average, Bounassif explained. With an overwhelming motivation of avoiding execution risk, it may take time for issuers with this sort of profile to be convinced of changing demand dynamics.
Retail AT1 investors’ willingness to roll their holdings in reinvestment provides another compelling reason for issuers to stick with the status quo. Adam Parry, funding manager at Suncorp Bank in Brisbane, said: “We have enjoyed a long period of support from our retail investors and the reinvestment offer is something we consider we should continue to offer. Retail currently suits our needs from a volume perspective.”
Indeed, while Chaplin emphasised the increased scale of wholesale demand for hybrid product he also maintained his support for the listed format. In an ideal world, he argued, the prospectus process would be eased for issuance into what he insists is an increasingly sophisticated investor base. But either way, a retailable product is still the best option for most hybrid transactions in Australia.
“The wealth managers, who are a huge component of the distribution of hybrids, are wholesale-qualified and professional – but they need the listing, which is important from a behavioural perspective. I completely agree that a listed transaction is the best supporter of volume and execution certainty,” Chaplin said.
The main driver of hybrid issuance in Australia has historically been banks and, to a lesser extent, other regulated entities like insurance companies. Supply from non-regulated entities, specifically corporate issuers, has been patchier. In fact, the Australian dollar market had not seen more than A$1 billion (US$737.5 million) of annual issuance for nearly a decade until the new deals broke that barrier in 2020.
AusNet Services printed A$650 million in a hybrid deal priced in September, which was followed in November by a A$500 million transaction from Ampol. Australia’s intermediary community believes the use of equity-credit hybrids to enhance rating positions is likely to become a more regular feature of the local capital market moving into 2021.
“Corporate issuers that use equity hybrids do so to achieve some level of flexibility through the rating support – this is clearly an important motivation and one that was certainly prevalent with Ampol and AusNet,” Chaplin confirmed.
The credit benefit is marginal but material. Moody’s Investors Service rated both the Australian corporate hybrids issued in 2020, affording them both 50 per cent equity credit. Patrick Winsbury, associate managing director, corporate finance and financial institutions groups at Moody’s in Sydney, says this is supportive but not transformative.
“Hybrid issuance is unlikely to take an issuer into a higher rating category given the additional equity credit is a relatively modest component of the overall capital structure – it is much more likely to be something designed to provide some flexibility at an existing rating level,” Winsbury explained. “With the Ampol transaction, for instance, the amount of equity credit we gave the issuer covered an ordinary-share buyback it was doing. This enabled Ampol to create a more efficient capital structure within the parameters set for its rating.”
Despite the relative lack of issuance in recent years, Winsbury also revealed that the type of transaction structures Moody’s is seeing is relatively uniform. One development is the use of very long final maturity dates beyond the typical mid-tenor call date, as was the case in the 60-year non-call five maturity profiles of the AusNet and Ampol hybrids.
There is every reason for the market to continue to attract regulated and non-regulated hybrid issuers, Winsbury said at the KangaNews webinar. “Strongly rated corporate and bank issuers’ instruments will also be investment grade, but the close to 4 per cent return on offer has to be very attractive to a whole new set of investors. From a rating agency perspective, it is long-dated funding – which is credit-positive. It is easy to see that there are a lot of benefits to this asset class.”
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