China Development Bank (CDB) returned to the offshore markets on Tuesday with a $1.56 billion multi-currency deal that provided a textbook example of how not to access the international bond markets.
The state-owned policy bank is regarded as China's de-facto sovereign borrower and, therefore, the country's chief emissary for flagging its growing presence on the world stage. The original intent behind the Aa3/AA- rated credit's new dollar and euro bond offering was also highly symbolic given its desire to set a second benchmark for a new asset class in Silk Road bonds - so named after Bank of China's multi-currency offering in June this year.
However, while CDB's ambitions were clear, the policy bank appears to have much to learn from some of the world's most sophisticated borrowers when it comes to executing a successful bond deal and building a long-term relationship with investors.
Firstly, a number of bankers and fixed-income analysts queried why it chose to launch a deal on a day when the markets were enduring what one analyst described as a "great unravelling". Timing appears to have been dictated by a desire to come before China closes for its lengthy Golden Week holiday rather than waiting for a good market window.
Secondly and more importantly, CDB is also believed to have insisted its eight strong syndicate hard underwrote the deal at a level it wanted to clear it at, rather than building an order book based on investor feedback and secondary market spreads. This is said to have led to the abrupt departure of Barclays and Deutsche Bank as joint bookrunners from the syndicate, leaving BNP Paribas, BOCI, BoCom, HSBC, JP Morgan and Standard Chartered.
As one investor put it: "If CDB wanted to place its debt on the balance sheets of its relationship banks then why didn't it launch a syndicated loan? The whole point of a bond deal from a flagship borrower such as this should be about building a long-term relationship with investors and leaving a little bit of money on the table to create some goodwill."
As a result, CDB launched initial price guidance through its own secondary market levels according to fixed-income analysts and non-syndicate bankers. Instead of building momentum that would have enabled it to ratchet pricing down, CDB ended up having to revise guidance on the dollar tranche to the widest end of the initial range.
Perhaps tellingly, the syndicate never released any guidance on how big the order book was for either tranche. It is highly unlikely to have matched the $13.34 billion Bank of China achieved for its $3.55 billion four-pronged offering.
Final pricing of an €500 million three-year was fixed at 99.856% on a coupon of 0.875% to yield 80bp over mid-swaps or 112.4bp over Bunds. On this tranche, CDB priced at the tight end of initial guidance of 80bp to 90bp over mid-swaps.
A $1 billion five-year tranche was priced at 99.613% on a coupon of 2.5% to yield 2.583% or 120bp over Treasuries. Initial price guidance was in the range of 110bp to 120bp over.
Benchmarks
CDB has two outstanding dollar-denominated issues to provide a reference point, although both are in the name of Amber Circle Funding (ACIRC), with guarantees from CDB.
A 2% December 2017 bond was trading on Tuesday on a Z-spread of 110bp and a 3.25% December 2022 bond was trading on a Z-spread of 155bp over. With 45bp on the curve between the two bonds, fair value for a new five-year falls around the 137bp level on a Z-spread basis.
For investors, the key consideration would then be how to price in the benefit of not having any structural encumbrance in the new deal. One fixed-income analyst wrote: "While most investors would no doubt prefer the structure of today's deal, we still don't see much upside in buying this deal inside ACIRC's existing curve on a day when all other risk markets (including Chinese US dollar credit) are in meltdown mode."
Some bankers argued fair value for the new dollar tranche on a Z-spread basis was about 117bp, suggesting the bank has ceded about 1bp to 2bp.
Chexim also provides a second benchmark. It has a 2.5% July 2019 bond outstanding, which was trading Tuesday on a Z-spread of 97bp. It also has a 3.625% July 2024 bond trading at 139bp.
The 42bp on this curve suggests a new five-year with no structural elements would come at around 106bp on a Z-spread basis.
Chexim itself recently completed a badly received two-tranche issue that encompassed a structure investors did not like and was late being freed to trade. This deal immediately traded down and has yet to recover. The five-year tranche, for example, was priced at 130bp over Treasuries, but was trading Tuesday at 155bp over.
Asian credit markets also suffered one of their worst days of the year on Tuesday with the Asia ex-Japan iTraxx IG Index widening 10bp to 160/165. The China iTraxx Index was out wider still by 11bp.
Sales desks reported a big swing to risk-off mode following the release of China's industrial profit figures for August, which revealed an 8.8% year-on-year drop. The flight to quality saw benchmark 10-year US Treasury yields tighten to 2.04% at New York's close.
Improving credit story
CDB's messy execution is particularly unfortunate as it masks an improving credit story and the huge amount of work the bank has done in the domestic bond market, where it accounts for 18% of outstandings and is the second largest issuer after the Ministry of Finance.
Its investor presentation revealed that profitability rose 37.2% in 2014 to Rmb98 billion, while its Return on Assets improved from 1.02% to 1.06% and its Return on Equity from 14.82% to 15.63%. CDB has a much larger asset base than Chexim - Rmb10.3 trillion at the end of 2014 compared to Chexim's Rmb2.4 trillion.
Non-performing loans have also remained low at 0.63%, although they have climbed from 0.48% in 2013.
CDB is China's leading bank for infrastructure financing and is playing a big role in the country's flagship One Belt One Road Initiative. At the end of 2014, 18% of its loans were for road transportation projects, followed by 13% for water and environmental projects, 11% for electric power projects and 8% for shanty town renovation.
The bank recently said that 65% of its lending for the first half of 2015 has been dedicated to shanty town renovation with a particular emphasis on resource-exploited cities.
