Australian companies forced to go walkabout
* Only a third of bond issuance happens at home
* Limited investor appetite pushes companies overseas
* Foreign debt brings currency risks and additional costs
By John Weavers
SYDNEY, Sept 25 (IFR) - Australians are a proud lot. Although sporting successes have been thin on the ground of late, they can be rightly proud of the country's economic resilience and their companies' overseas successes. When it comes to lending money to home-grown corporations, however, Australians are still more reluctant than their foreign counterparts.
Just as in 2012, only one-third of this year's total bond issuance by Australian corporations has been in their local currency. The problem, bankers explain, is that local markets are unwilling, or unable, to offer the longer tenors and larger sizes available in Europe or the United States.
But even with acceptable cross currency swap rates, raising funds abroad impacts negatively on Australian companies' balance sheets since they typically pay a premium over what they would at home.
This is less a problem for conglomerates with foreign currency revenues like BHP Billiton and Rio Tinto, but for companies like Melbourne Airport, this can be an expensive process which is set to become more so as the cost of hedging funds back into Australian dollars steadily rises under Basel III rules.
Even blue chip credits struggle to achieve the longer tenors at home that are readily available in northern hemisphere markets and cannot hope to replicate their deep pockets.
"Australia can hardly expect to match the available savings pools in the US and eurozone whose economies are 10 times larger than Australia," Mark Beardow, head of fixed-income at AMP Capital, said. "The real question is whether Australia's corporate bond markets can become as large as more comparably-sized jurisdictions like sterling, Swiss francs and Canadian dollars," Beardow said.
The situation is worse for Australian high yield corporates that simply have no domestic alternative to the deep and liquid US markets. As a result, there has been very little issuance from sub-investment grade companies beyond a handful of recent small deals of A$70m or less, targeted at high-net-worth individuals.
The difference in scale between Australian and European bond markets was underlined by Melbourne Airport's EUR550m (US$744m) 3.125% 10-year deal priced on September 19.
The transaction attracted an order book approaching EUR4bn which enabled the issuer to price at 105bp over mid-swaps, 10bp inside initial price thoughts.
Such demand is simply unimaginable in Australia where the largest ever 10-year corporate deal was a A$400m sale by Brisbane Airport in 2006.
Melbourne Airport itself visited the local bond market on May 28 this year, when it issued a A$225m 5% seven-year note at 150bp over asset swaps.
Given that its new euro 10-year swapped back to around 200bp over domestic bank bills, and adding 20bp for the seven- to 10-year local curve extension, theoretically Melbourne Airport paid around 30bp more than it would have done at home. There, however, it would probably not have secured enough demand for such a large 10-year bond.
Beardow laid part of the blame for the short tenors available in Australia to the historical flatness of the local benchmark yield curve.
"Over a number of years the hawkish RBA has kept interest rates high and the Australian yield curve relatively flat which has limited the appetite for investors for the additional risk associated with longer tenors," he explained.
However, Australian investors and bankers feel that there is room for larger corporate deals. According to the Australian Bureau of Statistics, the managed funds industry ended the first half with A$2.13trn in assets under management.
Philip Bayley, principal at ADCM Services - who has just completed a doctorate on Australia's corporate bond market - sees improvement potential given that the Australian bond market is already sufficiently deep to develop an A$25bn Kangaroo market.
"Real money is getting better at lengthening duration given this year's seven-year corporate sweet spot while it is also looking to diversify away from financial institutions," he said, referring to a record number of seven-year bonds by Australian corporations in the local market this year. "But while the corporate bond market is in better shape that it was before the global financial crisis, it still has a long way to go."
Beardow from AMP Capital sees potential higher overseas demand as a factor that could boost the local corporate bond market.
"The Australian dollar is the fifth most traded currency in the world, and further, there is a large foreign ownership of Australian Commonwealth Government bonds which have provided a healthy yield pick up over other Triple A sovereigns," he noted.
"With this yield benefit falling, there is scope for some foreign investors, including Japanese funds, to move down the Australian credit curve including to corporate bonds."
As for local institutional investor interest, however, Beardow expects this "to remain constrained by the preference many funds have for property and infrastructure projects rather than bonds as their portfolios' defensive assets."
Bayley notes that government attempts to boost corporate demand and supply have focused on the retail sector. The potential there may be increasing, since the population of Australians with more than US$1m in wealth jumped 15.1% in 2012 compared to the prior year, according to a June report by Capgemini and RBC Wealth Management. These people now have combined assets amounting to US$625bn, the report said.
Bayley pointed out that retail interest is limited by the attractiveness of the risk-free returns from bank term deposits which are guaranteed by the government for up to A$250,000. For example ANZ currently pays a fixed 4.5% for five-year deposits.
"Removing the government guarantee would help the retail bond market, but this does not sit well with regulatory pressure on banks to increase deposits as a share of their overall funding mix."
Still, Bayley is not sure that resorting to retail investors is the answer.
"We have seen a lot of hybrid issuance in the retail market because individual investors have been attracted by the absolute yield pick up over term deposits," he said. "However, only when we see a run of plain vanilla bond transactions that attract strong institutional demand will the listed market become truly viable."
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