Hybrid Securities Feed Yield Hunger .Article Stock Quotes Comments more in Hong Kong ».EmailPrintSave This ↓ More.
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Asian businesses have found a way to raise money and boost their creditworthiness without ceding control of the boardroom. In the process, they are feeding investors' hunger for high yields.
The secret is hybrid securities, which are enjoying a spurt of popularity in a region where they traditionally haven't been that big. Hybrid securities combine characteristics of both debt and equity, with yields generally higher than traditional debt in return for the buyers taking on a higher degree of risk. In a world of low rates, meager returns from regular fixed-income securities are pushing more investors to seek out the juiced-up returns of hybrids.
In recent weeks, a slew of companies from around the region have raised money in this market, including an Indian steel maker, a Philippine port operator and a Chinese conglomerate.
Last week, a unit of state-owned China Resources Power Holdings Co. issued a $750 million perpetual hybrid dollar bond yielding 7.25%. Nearly two-thirds of the offering, underwritten by Goldman Sachs Group Inc., Citigroup Inc. and UBS AG, went to private banks. The securities provide a much higher yield than the 3.768% offered on a traditional five-year bond that China Resources Power sold last July, which priced just below par.
This year, companies in the Asian-Pacific region, excluding Japan, have sold $5.01 billion of hybrid debt, with more than half of that coming in the last month, according to data provider Dealogic. While a small sum by global debt-market standards, that is about two-thirds of all the hybrid debt issued last year in the region and about twice what came to market in all of 2005. More than half the issuance is denominated in U.S. dollars.
Hybrids are popular in Europe, where they are often used to bolster bank capital, but less so in the U.S. So far this year, issuance in the Asian-Pacific region is about double the $2.54 billion of hybrids sold in the U.S. over the same period, but behind Europe's $14.1 billion.
Several factors are driving the trend, in particular a desire by companies to lock in low interest rates amid expectations that credit is tightening globally, something that is boosting bond issuance more generally. Also, many companies delayed raising capital when markets were rocked by the disasters in Japan, political unrest in the Middle East and European sovereign-debt problems. And because companies need to show investors recent financial statements, those companies that reported earnings for 2010 in recent months have a a window of issuance right now while the data are still fresh. After mid-May, they will need to wait until half year earnings are available.
"The sun, moon and stars are aligned" for hybrids right now, said Dominique Jooris, the banker leading debt and hybrid capital products at Goldman Sachs.
Hybrid securities offer issuers several perks. Because they are considered part equity, they boost the equity capital on a company's balance sheet. That makes it easier, and usually cheaper, for a business to raise traditional debt.
However, hybrids don't dilute shareholders the way a new stock issue would. And in Asia, that matters. Many companies are controlled by one family or by the state. In both cases, the owners usually want things to stay that way.
"A lot of Asian companies are family owned, and if they issue equity they get diluted. But if they issue hybrid equity they don't, and this could be one of the reasons for issuing hybrids," said Paul Au, head of fixed-income syndication at UBS in Asia.
For now, investors—including private banks around Asia, who are big buyers of hybrids—are happy to trade control for higher returns.
But holders of hybrid securities are below other creditors when it comes to a claim on a company's assets, so when trouble does come, they have more at risk. Also, the company usually can defer interest payments on hybrids when it is running low on cash. Depending on the terms of the security, it often has to pay back the deferred interest, assuming that is something it can manage.
While economic growth remains so much stronger in developing Asia than in Western markets, the appeal of trading control and protection for yield is strong, especially when it comes to hybrids issued by big-name companies like Citic Pacific Ltd. and Tata Steel Ltd.
But Asia has seen its share of unpleasant showdowns between debtors and creditors. Weak legal protections for investors in many countries make it difficult to enforce claims or contest decisions made by controlling shareholders.
Investors in hybrid securities will want to hope they don't end up testing how a creditor with even less protection and control would fare should Asia's economic outlook take a turn for the worse.
Write to Peter Stein at email@example.com and Alison Tudor at firstname.lastname@example.org