Tuesday, September 30, 2008

Fund raising stymied by dwindling reserves of confidence

The billions of dollars of losses by investors – from shareholders to bondholders – from the collapse of banks across the globe has dented confidence to such an extent that fund-raising is expected to be extremely difficult in the next few weeks. The daily announcements of forced bail-outs and bank collapses from the US to Europe is fuelling rather than easing concerns among investors, even those who until just a few weeks ago thought they would be relatively safe. Bondholders are one class of investor who would certainly have thought they were unlikely to lose money, even if a firm ran into trouble. Ashish Shah, analyst at Barclays Capital, says: “Investors’ ideas about which banks are too big to fail have changed dramatically. “Recent bankruptcies have shown that all types of investor can be at risk and this realisation is going to make fundraising challenging for many institutions going forward.” Already, it is proving extremely hard for banks to raise much-needed capital in the equity – or equity-linked markets, where investors’ positions have been decimated by a chain reaction of bank failures and rescue efforts. Barclays analysts say: “The preferred and equity markets are largely closed to financials following the treatment of [Fannie Mae and Freddie Mac], Lehman Brothers and Washington Mutual. Likewise, convertible issuance is down sharply due to the short-selling ban on financials”. The bond markets, which for much of this year continued to provide large amounts of financing for financial institutions, are also now proving difficult ground, even for the most short-dated funds. Just weeks ago, investors were snapping up bonds by financial institutions, arguing that the relatively high yields offered a welcome lift to returns. The bankruptcy of Lehman Brothers two weeks ago – expected to result in losses of $110bn for its senior bondholders alone – dramatically changed perceptions of bondholder risk. Lehman bonds are expected to recover less than 20 cents in the dollar. Creditors to Washington Mutual were also wiped out. Michael Kastner, portfolio manager at SterlingStamos, says: “It will be a long while before corporate bond investors say owning bonds [sold at attractive yields] are a no brainer”. The effects are being felt at short- and long-term maturities. Following the Lehman bankruptcy , about $400bn was taken out of US money market funds, which are heavy buyers of short-term debt issued by financial institutions. The outflows from money market funds appear to have been stemmed by moves by the Federal Reserve to provide money market funds with indirect access to its lending window. However, Alex Roever, analyst at JP Morgan, says about 60 per cent of that money has been moved into money market funds backed by government securities. He says: “It seems unlikely much of the money that fled to the quality of government securities will return soon. On a marginal basis that means there is less money available to fund banks and financials”. With another four significant bank bail-outs in Europe in just two days, holders of financial debt in the region are regarding their exposures with concern. However, the main difference in Europe is that governments have generally acted in a way that protects senior creditors. Belgo-Dutch bank Fortis and Glitnir of Iceland have both received state capital injections to keep them as going concerns, while Germany’s Hypo Real Estate was given €35bn worth of creditor guarantees to stave off a funding crisis at the specialist property lender. In the UK, unsecured senior bondholders have been offered explicit guarantees by the government in the cases of both Bradford & Bingley this weekend and Northern Rock last year. However, holders of subordinated bonds and hybrid debt-capital instruments such as fixed income preference shares have been squeezed and both face uncertain futures. In some ways this is to be expected given that such instruments are meant to be at greater risk of losses. But it is striking because of the growth of such instruments from banks in recent years, and in the first half of this year. Suki Mann, strategist at SGCIB, says: “It would not surprise us if we get very little issuance in bank capital paper for the rest of this year. “It’s not about spread levels, or need to issue (banks are relying more than ever on central bank funding) – there is simply no market. “The demise of WaMu in particular, wiping out senior bondholders – albeit in extremis – will have many senior bondholders of other troubled US banks sitting uncomfortably. There may even be long term funding repercussions for financial institutions.” Another problem for banks especially is that with the demise of structured investment vehicles and conduits, which were a major source of demand for floating rate bonds from financial issuers, a whole source of funding has simply disappeared, perhaps never to return. However, there is a considerable amount of floating-rate debt maturing in the next 12 months, and the collapse of the structured finance market, as well as the reduced appetite for even short-term bank debt from money market investors, is expected to be keenly felt, both in the US and in Europe. Citigroup analysts say: “Despite all the excitement about the Tarp (troubled asset relief programme) to our minds the market’s main focus going forward will be on funding and on deleveraging, Any institution that needs funding in this environment – be they hedge fund, corporate or bank – looks vulnerable.”

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