As the eurozone crisis rattles equity capital markets, equity bankers and investors are being forced to anticipate the actions of politicians. But with a host of deals carried over from the fourth quarter of 2011, there may still be scope for an increase in activity in 2012.

For equity markets, the eurozone crisis remains the defining issue. Most bankers believe that equity markets will remain hostage to politics in 2012 and will oscillate between optimism and pessimism.

“Everyone is looking at what happens in the eurozone,” says Sam Dean, global head of equity capital markets (ECM) at Barclays Capital. “With market movements so dependent on political decision-making, this leaves investors trying to forecast how politicians will act, and this is not something anyone likes doing.”

In mid-January, resolution began to look a bit more shaky. First, Standard & Poor's (S&P) downgraded eight eurozone sovereigns, then Greece's debt restructuring talks stalled. Finally, on the back of France losing its AAA rating, S&P downgraded the European Financial Stability Facility, the construction of which rested on the ratings of its backers.

All eyes on Greece

Market participants had been looking to the Greek bond redemption in March as the key event that will define risk appetite going forward. If this asset and liability management exercise is successful – with fresh liquidity forthcoming from bail-out funds and the private sector – it would give much-needed confidence to the markets. Many fear that the stalling of the talks may put at risk the €14.4bn bond repayment due from Athens. “We are at the point where markets have to see the end game,” says one banker. “If [the voluntary debt restructuring] fails, all bets are off.”

Prior to the collapse of Greek talks, many had seen more reasons to be hopeful in mid-January than there were at the close of 2011, not least the equity markets rally in the first couple of weeks of the year, which propelled Wall Street to a five-month high and the S&P 500 to within touching distance of the 1300 point barrier.

Despite mixed new issue performance and volatile markets, investors continue to find equity market valuations attractive

Mohit Assomul

Similarly, investor sentiment towards peripheral eurozone countries had improved. On January 12, Spain managed to print €10bn of three-year paper (upsized from €5bn), priced at 3.4%, compared with the 5.2% at which it issued in December 2011. The following day, just hours before the Greek talks, Italy also held a successful auction, selling €3bn of benchmark securities due in November 2014 at a yield of 4.83%, lower than the 5.62% set at the last comparable bond auction.

Brighter future?

Alasdair Warren, head of ECM for Europe, the Middle East and Africa at Goldman Sachs, points to other developments between December and mid-January, that had given incremental cause for market participants to be a bit more optimistic.

For one thing, the European Central Bank's (ECB's) €500bn three-year refinancing operation removed the short-term liquidity constraints that were impacting European commercial banks. On the back of that there has been about €20bn of bond issuance by European banks, compared with virtually no activity in the period between mid-2011 and December. He also points to improvements in some macro data. For example, marginally better than expected purchasing management index (PMI) data from across Europe indicates that the recession had not been as deep as previously feared, while PMI, unemployment and fourth-quarter GDP data out of the US has all surprised on the upside.

“The biggest single risk that equity markets still face is the eurozone crisis, but there has been quite a lot of other macro-economic data that suggest that, on the margin, things are starting to look a little bit better,” says Mr Warren. 

That said, there are a lot of hurdles to get over, including the need for the ECB to put in mechanisms to support the longer duration financing of some European sovereigns and a new European treaty that is being negotiated against the backdrop of the French elections. From a market standpoint, things may get worse before they get better, says Mr Warren.

“Depending on what happens in and around Europe, our equity strategists' view is that the first part of this year is going to be pretty tough in terms of equity markets and we're unlikely to see many IPOs [in Europe] until after the summer,” he says. “Activity will have to be opportunistic, which is why we've already seen a number of accelerated equity placings in the course of the past week or so.”

In January, Goldman Sachs placed 4.5 million shares in German chemical giant Brenntag for private equity house BC Partners (representing 8.7% of the share capital). Spanish oil and gas group Repsol brushed aside concerns about the health of the eurozone and its own country's economic stability to successfully complete the largest block trade in Spain for more than five years, when Goldman Sachs, BBVA, Deutsche Bank, JPMorgan and UBS placed 60 million shares of Repsol stock (representing 5% of the share capital).

The biggest single risk that equity markets still face is the eurozone crisis

Alasdair Warren

Also in January, London-listed recycled packaging company DS Smith launched a fully underwritten £466m (€560m) rights issue to support its acquisition bid for Swedish rival, SCA, while Russian oil and gas company RusPetro re-opened the London market with the first sizeable initial public offering (IPO) in Europe, the Middle East and Africa, and the first corporate IPO in London, since July 2011.

IPO prospects

But ECM bankers all agree that confidence needs to return before there is any real activity in the IPO markets. Because of the hit-and-miss IPO performance last year, Viswas Raghavan, global head of ECM at JPMorgan, says investors are particularly concerned about principal erosion. With stock performance being driven by news flow around political decisions and sovereign debt concerns, Mr Raghavan says IPOs need to strike a balance between valuation sensitivity from investors and realistic pricing by sellers.

“IPO performance has been mixed at best. This is not always because of the [company] story, but because of equity market correlation risk,” he says. “Stocks are currently so macro-driven, so correlated, that they all fall on negative news flow. There is little distinction between good and bad stocks. To get investors interested in an IPO, they're looking for some kind of buffer [price discount] to protect them from the negative impact of news flow-driven macro risk. Sellers looking to execute will need to come some way towards providing that buffer.” 

Because of such conditions, many companies raised private capital to enable them to continue growth plans and the flexibility to come back to market when things improve. Mohit Assomull, global head of equity syndicate at Morgan Stanley, says such deals priced close to or one level above that of common stock, with perhaps a preferred element or a dividend that kicks in after a year or so if the company does not go public. He says Morgan Stanley raised probably twice as much private capital for clients in 2011 as it did in 2009 or 2010. Despite private capital's illiquidity, he says many investors found the idea of being protected from market vagaries very attractive.

“Given the volatility and uncertainty we witnessed in the public markets in 2011, private and pre-IPO transactions became more interesting to investors as a way to participate in an equity transaction without the extreme volatility, and I would expect that trend to continue into 2012.”

However, there have been signs that equity markets are perking up a bit and that they are becoming a little more selective by region and sector. Better price performance so far this year has built on the activity towards the close of 2011 in the US tech space, says Mr Assomull. In November, Groupon, which specialises in offering daily deals, raised $700m after increasing the size of its IPO, followed in December by social network games company Zinga, which raised $1bn, becoming the largest IPO by a US internet company since Google raised $1.7bn in 2004.

New issue activity

“Despite mixed new issue performance and volatile markets, investors continue to find equity market valuations attractive. If macro conditions stabilise, we could expect to see a significant increase in new issue activity over the next several weeks and months,” says Mr Assomull.

There are plenty of deals waiting in the wings. Data suggest that if all the deals scheduled for the fourth quarter of last year had been done, it would have been the busiest quarter for IPOs in history. As it turned out, it was possibly the quietest. This means there is a huge pipeline of activity waiting to happen. “It's very robust, and very diversified by country and sector,” says BarCap's Mr Dean. “And for companies that investors like and know well, and that have a management team they trust, there is appetite to put money to work.”

There are a couple of other potential bright spots in the equity markets. JPMorgan's Mr Raghavan says conditions are right for the return of the convertible – with one major proviso. “The quest for yield and volatility will remain high,” he says. “Investors like the downside protection convertibles provide and issuers are able to sell equity at a premium.” That said, he warns that “liquidity in the bond markets is so great that activity may be derailed by the decision to tap debt markets rather than dilute shareholders”.

M&A recovery

Many equity bankers think this year's wildcard will be the return of mergers and acquisitions (M&A). “We see likely opportunities on the back of M&A, particularly at the mid-cap level,” says John Crompton, global head of equities at HSBC. “These are the sort of [economic] conditions that separate the weak from the strong and give the strong the opportunity to buy the weak; some of that will be financed by equity,” he says. “The message from shareholders is that they are more interested in relatively conservative deals. There is limited appetite for transactions that load a company with debt.”

The return of this kind of "front-foot" capital raising would underpin equity valuations and drive broader activity, adds Mr Crompton.

For the moment, however, equity bankers and investors are focused on the impact of the eurozone crisis. The way it unfolds (or unravels) is critical, they say, not least for bank capital deals. UniCredit's €7.5bn deal is a crucial litmus test. On day one of subscriptions, it looked perilous, with rights falling 65%, well below their implied price, and the stock itself falling 12.8% to €2.286 a share. Later, however, shares rallied 6.7% and the rights soared 77% to close the gap to their implied price. 

“The outcome of UniCredit's huge rights issue will set the tone for the market,” says one banker. “Even so, for those banks that can access the market, it has to be a one-shot solution. Investors do not want to see banks raise equity now only to see that wiped out or eroded and banks trying to come back for more.”

PLEASE ENTER YOUR DETAILS TO WATCH THIS VIDEO

All fields are mandatory

The Banker is a service from the Financial Times. The Financial Times Ltd takes your privacy seriously.

Choose how you want us to contact you.

Invites and Offers from The Banker

Receive exclusive personalised event invitations, carefully curated offers and promotions from The Banker



For more information about how we use your data, please refer to our privacy and cookie policies.

Terms and conditions

Join our community

The Banker on Twitter