Investors become cautious of ‘risky’ corporate bonds

 (Courtesy)

(Courtesy)
Read more at: https://www.standardmedia.co.ke/business/article/2001282209/investors-become-cautious-of-risky-corporate-bonds

By Otiato Guguyu
In summary
Events surrounding Chase Bank, Imperial Bank and Shelter Afrique have constrained demand and supply for corporate issuance of unsecured securities
More firms and banks are facing financing issues attributed to jitters in the corporate bond market despite denying credit to small and medium-sized businesses due to the rate cap law. Banks, besides depending on
deposits, usually borrow money to lend out. They also have the cheap option of approaching fund managers and pension funds for a corporate bond - a debt security issued by a corporation and sold to investors or type of loan to a corporation.
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Banks, like other corporates, have, however, seen their options narrow, with the corporate bond market being reverted to a government backyard where only Treasury bonds seem to be active.
Recently, the country’s biggest lender by asset size, Kenya Commercial Bank (KCB) admitted that it had taken a hit on its capital after it implemented the International Financial Reporting Standard 9 (IFRS 9) that came into effect in January.
This came as its shareholder funds also came down marginally from Sh101.2 billion to Sh99.6 billion in a period that saw long-term debt funding also decline five per cent from Sh23.6 billion to Sh22.5 billion. Painful lesson While the lenders are denying you money due to the rate cap, they are also going ‘broke’, but for a different reason. The corporate bond market has been poisoned by such punishing effects on investors that they are not willing to pick up the tab anymore.
“Investors who are now booking their losses such as CIC Insurance have learnt a painful lesson. In fact, to be frank, there was little real credit analysis going on, before.
It was always about the optics of the interest rate. It is not now,” Aly Khan-Satchu, chief executive of Rich Management said. When Shelter Afrique announced that it was restructuring its debt, players in the bond market could not believe they were about to be hit yet again. A sigh of relief came, however, when the pan-African mortgage lender said it would comfortably pay for the balance of Sh825 million on the Sh5 billion bond due for September and that the restructuring was for other short-term debts.
The market could be forgiven for being too edgy. Late December, Real People Investment Holdings, which issued a Sh1.6 billion bond in 2015, was downgraded by South African rating firm Global Credit Ratings (GCR) over ‘strong possibility that the group will breach its Capital Adequacy Ratio debt covenant in the near term or fail to meet existing debt obligations’.
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“This negative rating action primarily reflects a reduction in the servicer’s financial strength assessment following GCR’s recent downgrade of Real People’s issuer rating to CCC (ZA) from BB+ (ZA),” said GCR.
Investors who held the bond are now staring at the possibility of a default - something that has become some sort of a trend in the recent past. If you are a fund manager, say holding pension funds for people who expect to get paid when they retire, how would you explain to them when they come calling all their money is gone? It is this kind of scenario that has been giving investors sleepless nights since Imperial Bank went under.
Went under When fund managers, corporate and retail investors lined up to give Imperial Bank Sh2 billion for a five-year bond, they expected to reap the highest annual returns in the listed market. Imperial Bank was offering a fixed coupon rate of 15 per cent, higher than Chase Bank (13.1 per cent) or Real People (13.65 per cent) issued on the Nairobi Securities Exchange.
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The Imperial bond was frozen just days after listing while a few months later, the Chase Bank bond went under and now Real People is in trouble.
“Indeed, the events around Chase Bank, Imperial and Shelter Afrique introduced constraints for both demand and supply side, especially for the corporate issuance of senior unsecured securities,” said George Bodo, head of banking research at Ecobank Capital. And the impact came fast. The bank’s first tranche of its Sh10 billion bond issue that had sought to raise Sh4 billion only managed to get Sh2 billion. “I expect the route to recovery in this space to take a while,” Mr Satchu said. Deepak Dave of Riverside Capital said Kenya’s narrow range of corporate issues has made it difficult for the market to absorb persistent shocks that have resulted in a drought in the market.
He said local corporates tend to opt for bank financing as opposed to raising money at the market which has literally rendered it a State bond market where the government has listed 83 bonds, including two M-Akiba bonds against the 26 listed by corporates. “Broadly, the market has not recovered.
The failure of multiple securities would have been overcome if there was a broader range available, but with few issuances, all struggling or defaulted, it is not surprising participants are frozen,” Mr Dave said. With the adverse impact, traders now say that the market will punish anyone who wants to issue a bond, with reports in some quarters indicating that there is a microlender lining up a bond to test the waters. Traders say bond holders are likely to seek more preferences, guarantees, collateral or even demand huge premiums.
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“For issuers, it premiumised issuance(s) for issuers; while for investors, it triggered heightened demand for additional ring-fencing mechanisms to protect capital,” Mr Bodo said. “Going forward, appetite will gravitate around ring-fencing of any corporate issuance such as full third-party guarantees, or any other fall-back mechanism(s)-as well as a credit rating of both the issuer and the issue.” This would put bond rates at par with the current lending rates under the interest rate cap, causing a further dry spell in the corporate bond segment. Satchu said that confidence has not only been shattered in the bond market stage but issuance of the commercial paper market. With such a toxic capital market, it is not surprising some issuers have opted for global lenders.
Mortgage lender and Housing Finance Group’s banking subsidiary HFC is planning to take on a Sh4 billion external debt after making an about-turn from a private local placement, according to Sterling Capital Ltd.
“The bank rejected the local debt, which was seen as expensive at between 11 per cent and 14 per cent per anum,” said Sterling Capital in a notice to investors. Maturing debt HF received Sh4.5 billion from a similar loan that helped in clearing its Sh7 billion bond.
The bond was redeemed using Sh2 billion from the loan and Sh5 billion internally-generated cash. ALSO READ: Imperial Bank to be sold next week Centum, which was also facing a maturing debt, turned to South African lender Rand Merchant Bank (RMB) for a Sh5 billion facility that will mature in 2021.
The loan comes at a time when Centum is retiring two facilities, including a Sh3 billion ($30 million) loan from RMB that was set to mature December last year. Centum also settled a Sh4.2 billion corporate mixed note which was set to mature this month. Dave said it is unfortunate that nothing short of sovereign or multinational backing will do at the moment.
“The market needs to overcome this skepticism since guaranteed bonds are not a path to well-developed capital markets,” he said. Satchu is, however, confident that some corporates can still make a compelling case for affordable financing at the capital markets based on the performance of East African Breweries Ltd (EABL).
A year ago, EABL got a 141 per cent subscription rate for its five-year corporate bond when investors offered Sh8.45 billion, well above the Sh6 billion it had sought. “The corporate bond market has been largely shuttered except for gilt-edged borrowers like EABL.
This is a classic flight to quality scenario,” said the Rich Management boss. Gilt-edged securities are high-grade investment bonds offered by governments and blue-chip companies as a means of borrowing money. oguguyu@standardmedia.co.ke Read more at: https://www.standardmedia.co.ke/business/article/2001282209/investors-become-cautious-of-risky-corporate-bonds