Like all the capital markets around the world, the Asian debt capital markets business for loans and bonds has been down this year, but surprisingly not as much as maybe people first thought after the first quarter or so when things were extremely slow. I think the slowness was caused by a combination of the meltdown in the telecommunications sector and the bond and equity markets being so volatile.
Since June though, we have seen a big pick-up, so all-in-all, although volumes have dropped by around 15% to 20%, the fall has not been as sharp as was predicted earlier this year.
The sector that we have high hopes of continuing to be quite dominant next year is what I would call the event driven, acquisition-financing deals. We have seen SingTel's acquisition of Optus, Haitai's leveraged acquisition deal by CVC, UBS Capital and JPM Partners in Korea and the LG Electronics and Phillips merger. In Australia, we saw China Light and Power's acquisition of Yallourn Power and APN acquiring Wilson and Horton.
We have seen a lot of event driven activity this year and I think we will see more next year, particularly in the leveraged finance space where there are companies which are struggling with a lot of debt being forced to divest a lot of quality businesses.
What else has characterized the market in 2001?
There's been a migration of a lot of traditional loan clients into the bond market. We saw this with PCCW-HKT, which did a syndicated loan at the beginning of the year and re-financed a large part of it in the bond markets recently.
Hutchison Whampoa had bank debt that was refinanced by a Yankee bond issue, we also saw SingTel's syndicated debt facility refinanced by a large bond issue and we have seen clients which are first-time issuers in the bond markets move from the syndicated loans market, such as Jardine Strategic and Hong Kong Land.
We're in an environment where these traditional loan clients have moved to diversify their borrowing mix and that has caused spreads in Hong Kong and Singapore to come down dramatically. This has happened because volumes were coming down anyway and banks have seen their loan exposure to clients reduced because of a bond refinancing.
Liquidity in the Asian banking sector is stronger than I have ever seen it, most new deals are being oversubscribed, but with a limited supply, we have banks competing for fewer deals and that has had an impact on price.
Do you think the shift to the bond markets will continue next year?
I think there'll still be a lot of activity in the bond markets. What we are seeing is that Asian borrowers are becoming far more sophisticated now. A couple of years ago they were mainly after the cheapest financing, which was and still is provided by the bank market.
The sophistication I refer to implies that borrowers are now saying they need a better or more conservative capital structure for these uncertain times: Markets are very volatile and they do not know whether they'll be able to always tap equity markets or bond markets when they need to. When there is a window in any given market, they want to be able to access it whether they need the funding or not. Pricing doesnÆt become the priority, but rather they strive to lengthen debt, to diversify from just bank debt and get exposure to new investors in new markets to provide their balance sheet overall strength. That's going to continue.
That suggests this will be a long-term trend.
I agree. These sophisticated borrowers are going to have a core of their debt in the bank market, but will also have a need to establish their bond programmes. I think we have seen more new bond issuers this year in Asia than we have for many years.
We are also seeing banks like ourselves, which have got both a bond and loan platform, working together. We formally merged the two departments together in January, so the whole group is involved in originating loans and bonds and making sure the best financing solution is given to our clients, rather than competing against each other to win the mandate.
Some of our competitors that cover both markets are now trying to do something similar. It's going to be a very important cultural change in the region.
What have been the main markets in 2001?
The markets that have been most active this year, and I think it will be the same next year, are Hong Kong, Singapore, Korea, China û even though business up till now has mainly gone to local houses, the Philippines and Australia. You could ask the same question at this time in 2002 and I think 80% of activity will come from these same countries.
What is JPMorgan's presence like in these markets?
In Hong Kong this year we led the PCCW-HKT's $4.7 billion loan and $1bn bond issue and the $1.5 billion deal for Reach; in Singapore we underwrote and led the $1.3bn UOB bridge and bond deal; in Korea we led the $2.0 billion LG Phillips syndicated loan and the KRW345 billion deal for Haitai.
In the Philippines we led the successful San Miguel loan deal for $200 million as well as several bond deals for the central bank and the Republic of the Philippines. In Australia, we also led the CLP $1.3 bn acquisition loan for the purchase of Yallourn and a $1.5bn bond deal for Telstra. In Malaysia and China we also led bond deals for the governments.
In China, we are building a presence and have a strong team there and we certainly have high hopes of doing a lot of business in the debt markets next year.
How easy is it for a foreign house to win mandates in China?
Up until recently, it has been very tough because Chinese banks have done a very good job servicing their local clients, and the local market has been very liquid. With accession to the WTO and Chinese government's ambitions to liberalize and encourage foreign investment, we've seen more and more multinational companies invest.
There are major petrochemicals joint ventures going on at the moment including one project involving BP and Sinopec. I would not be surprised to see BP wanting to involve some of its long-term foreign relationship banks in that deal. As more foreign corporates move into China, they are going to want to take with them these relationship banks.
So we have high hopes for next year and the years beyond with China.
However, I do think the big growth market will be Korea next year. There is an enormous amount of upcoming new and refinancing debt opportunities there and banks are seeing Korea as a big pipeline environment for them.
What kind of deals will we be seeing from Korea?
I think you will see a lot of leverage financings with private equity firms buying businesses. You are also going to see a fair amount of rationalization and M&A activity like we saw with LG Phillips. Both the loan and bond markets will be strong.
What has been happening in the non-core markets like Malaysia, Taiwan and Thailand?
As has been the case this year, you are going to see selective investments. There have been a couple of deals in Malaysia for example, but banks on the whole are being very cautious. Within Asia, those economies are still being seen as ones that you need to think carefully about and need to be sure you are lending into an environment in which a client will be able to sustain the rigors associated with market volatility.
Malaysia, Thailand and Indonesia have been doing some good things and I think the financings that happen in these countries will be related to restructuring of existing debt. I doubt that foreign banks will be involved with many new financings because a lot of these already have considerable investments in this region.
Hong Kong is a major market. This year spreads and bank fees have dropped. How difficult is it to compete in this environment and do you expect these trends to continue in 2002?
We as a firm do not want to compete in that: we want to add value. We have invested a lot of time and money into people with industry and structuring expertise; we also have a big balance sheet that we want to put to use for the right transaction. We are getting a reputation of being the bank to go to when something is complex and clients need industry expertise. We do not want JPMorgan to be thought of a place to get cheap money.
That said, we do use our balance sheet on finely priced transactions if we see that there are other investment banking opportunities with that particular client.
There is plenty of talk about banks relaxing covenants when it comes to HK deals? What is your take on that?
It does depend on the client. However, we are moving into an economic environment that's uncertain and unsettling, probably as uncertain as any of us have ever seen. I have seen many cycles during the last 15 years but this is the one where we just don't know if the market is going to rebound quickly, slowly or the degree of volatility that will exist before things are turned around.
Banks around the globe are seeing some of their loan exposures move into non-performing and they are making considerable write offs. Look at the Enron situation: there's probably going to be more of that. Touch wood, but Asia in the last couple of years has not seen many corporate failures, but the onus is on banks to make sure that we don't create a failure by giving a client too much debt or over relax covenants and gearing ratios.
Certain countries in Asia appear a little suspect and I think a domino effect might occur if one or two larger failures were to occur. Next year banks must be more careful and thoughtful that despite the competition, do not push the structures too far.
I think next year there will be a flight to quality. Projects that do not have a solid business plan or financial model are just not going to happen. People are going to want to make sure they get payback, which means any company with a business plan that does not have a lot of cushion in it will have to rely on equity. They are not going to be able to get senior debt from banks because banks are very fearful of making any mistakes.
We are already seeing this in the United States. I feel the loan market normally lags behind what's happening in the equity and bond markets by about six months. What I mean by that is that in six months time I think we're going to see a few more potential large failures like Enron around the globe. Banks have got to make sure they're not adversely affected by these failures. Doing the necessary due diligence and scrutinizing performances is going to be so important.
