There was a time, not long ago, when the notion that the Spanish stock exchange would be ranked as the global star performer of the year might have produced ripples of disbelief. Now celebrating its 150th birthday, Bolsa y Mercados Españoles (BME), the holding company of Spain’s four exchanges, is well on its way to clinching the top spot in 2006 among the world’s major bourses. The Ibex 35 index soared by 22.5% as of mid-October and is forecast to break the 13,000 level by year-end. This compares with a 10.5% rise for the Dow Jones, 10.1% for EuroStoxx and 6.8% for the FTSE.
“The Spanish stock market is benefiting from several factors,” explains BME’s finance director Javier Hernani. “On the one hand, the Spanish economy is turning in very positive growth that is roughly one to two percentage points above the European average. This is clearly reflected in a higher level of savings and wealth creation. There has also been a positive contribution from Spain’s large companies, whose growth and expansion are powering a rise in trading volumes. These corporates have been extremely active in M&A, acquiring other European companies and turning themselves into major multinationals with a strong global presence.”
Proactive role
Mr Hernani says that BME has played a big role in this process, as the corporate sector’s liquidity partner in mergers and acquisitions (M&A) activity. “Our market has stood behind the financing and liquidity of all these initiatives,” he says. “It has been a very positive symbiosis. Spanish companies have joined the ranks of Europe’s top corporates. It is also significant that 10 years ago, 13% of all share dealings in Spanish companies took place outside Spain. Today that figure is below 1%. It is a win-win situation.”
Many people thought that the M&A plans of Spanish companies required a bigger market than BME would be able to offer, but the experience has been quite different. BME has not encountered any problems to date in providing its listed companies with sufficient levels of liquidity. When Santander bought the UK’s Abbey, there were concerns that most trading of the combined group would shift to London, but 99% now takes place in Spain.
Buying spree
Spanish companies have put more than €115bn in play during the first half of the year, a record rise and in terms of volume, almost 300% ahead of the same period in 2005. Dealogic figures show that 73% of that activity was concentrated in a European buying spree, with the rest spread across the globe, mainly in the US and Latin America.
Santander, Spain’s biggest bank, set the trend in motion two years ago with its acquisition of Abbey, which was followed earlier this year by its rival BBVA, which bought two banks in Texas. Not to be outdone, Santander then went across the Atlantic to take a 24.9% stake in US bank Sovereign after offloading Abbey’s health insurance business at a juicy premium. The financial community was startled a few months ago to see Spanish conglomerate Ferrovial snap up Britain’s BAA, the world’s largest airport operator, while Barcelona-based construction firm Albertis struck a merger with Italy’s Autostrade, creating the world’s biggest infrastructure contractor, with a market capitalisation of €25bn.
Two of Europe’s biggest-ever deals now on the table involve Spanish companies: the E.ON hostile takeover bid for Spanish utility Endesa, and the offer by India’s Mittal for steel producer Arcelor, a European consortium involving Spain, France and Luxembourg.
“There are strong fundamentals behind Spanish companies thanks to the strength of the economy over the past 10 years,” says Marisa Mazo, head of research at Spanish broker Ahorro Corporación. “Many Spanish companies have undertaken strategic options in the past five years. There has been a great deal of diversification, such as BBVA and Santander building their multi-billion dollar franchises in Latin America.
“We have also seen a lot of activity by Spanish construction companies abroad, in the US, Canada and elsewhere. Corporate activity is valued between 5% and 8% of the price of the total Ibex 35 in the past couple of months. Most of this has involved the utilities and property sector, and the last to come in have been the banks. For next year we have set a price for the Ibex at 14,000. Of this, some 6% relates to corporate premiums factored into our valuation. This applies to companies like the utilities Hidrola and Unión Fenosa and the bank Bankinter,” says Ms Mazo.
Bubble worries
Given the spectacular growth of the economy, fuelled largely but not exclusively by a property boom, there is naturally a lot of speculation over whether the bubble is about to burst. Not so, says David Burns, country head of Spain at Schroders. “The Spanish economy is capable of sustainable growth,” he says. “The pundits focus too much on the property bubble and construction as the main driver. It’s important to note that the pension fund sector and the trade balance are both in surplus, and that inflation is under control. Moreover, the real estate sector remains strong. Spain has about €300bn in the managed assets market, but the amount of money invested in real estate is double that. The sector is supported by greater wealth, while the banks are highly liquid and are pushing their mortgage business very successfully.”
Ms Mazo points to the strength of an “incredible” growth in corporate earnings per share this year. “This is something in the order of three to four percentage points above the EU average,” she says. “This also relates to strong growth in Latin America, where three of Spain’s top companies have made large commitments. Santander, BBVA and Telefónica are also the Ibex 35 leaders.”
Logical step
Given its rapid expansion and high growth (net profit rose by 35.9% to €94m last year), a stock market listing for BME was a logical step. BME also boasts an average growth rate of 20% to 25% a year, and its 34% cost:income ratio is the lowest in Europe and one of the most efficient in the world. BME shares began trading last July after several delays. Some say this was the result of a personal conflict between Manuel Conthe, who heads the CNMV, Spain’s market regulator, and BME chairman Antonio Zoido. Others attribute it simply to a question of timing: the equity markets were in a nosedive in the run-up to the proposed IPO.
The Spanish exchange has not turned in a brilliant performance since its shares began trading, however the IPO brought the expected run of speculation regarding BME’s future as an independent exchange. Even before the listing, the Spanish exchange received an approach from Deutsche Börse about a possible merger of “all or parts of their respective businesses”, according to BME’s offer document.
Mr Hernani acknowledges that stock market mergers are a “medium-term tendency”, but he makes it clear that BME is not holding talks with anyone at the moment. “We explained in our offer document and roadshow that we are a good standalone story,” he says. “BME can boast strong ratios, a high level of profitability and a focus on efficient management. We have to wait and see what develops on the merger front. We expect the consolidation process to continue and to have consequences for us.”
Most analysts believe that a link-up with Frankfurt or another European group is inevitable. “People have a hard time understanding that stock exchanges are money-making machines,” says Mr Burns. “The consolidation of stock market business in Europe is going to take place pretty quickly, most likely over the next couple of years. We will probably end up with two or three markets.”
Juan Gich, head of investment banking for Spain and Portugal at Lehman Brothers in Madrid, believes that, from a rational point of view, the consolidation process reflects investor trends. “Decision-making is increasingly based on sectors more than countries,” he says. “On a purely personal level, the will is not always there. As for the Spanish market, the question is whether to throw in their lot with London or Frankfurt. Listing in London is a more complex process and it would make sense for Spain to be part of a greater pan-European bourse.”
Friends in need
One compelling reason for Spain to seek an alliance with powerful friends is the upcoming Markets in Financial Instruments Directive (MiFID), an EU initiative due to come into force in November 2007. The directive regulates the activities of investment firms and securities markets, and will result in profound regulatory changes that could have a serious adverse impact on bourse profits by introducing new forms of competition to traditional trading activities.
“It looks like BME will eventually become part of one of the large European groups,” says Ms Mazo. “My personal bet is that it could be Frankfurt. Both markets are complementary in that BME is very strong in equities and derivatives in the Ibex 35, and a link-up with Deutsche Börse would bring technological and productivity gains, as well as a lot of cost savings. It isn’t simple, because the main operators in BME are basically the banks and brokers. They could decide to wait for a year to gauge the consequences of MiFID implementation.
“If the market’s income is not eroded by this directive, it could try to remain independent. But if it cannot compete with new groups that develop their own markets, it will have to think about a merger.”
For now, there seems to be no reason for a push for merger talks with Frankfurt or anyone else. The Spanish economy continues to power ahead and analysts are forecasting higher corporate profits and increased M&A activity in the coming months. Ahorro Corporación, for instance, is looking for an 8% rise for the Ibex 35 in 2007 to around the 14,000 level.
The main storm clouds on the horizon are not unique to Spain: the threat of a hard landing in the US property market, political instability outside Europe and tougher competition with the introduction of new regulation. As for Spain, there is the risk of a downturn in Latin America sparked by the fall in commodity prices. If these countries fail to perform well, Santander, BBVA, Telefónica and oil giant Repsol, all Ibex 35 leaders, will inevitably suffer.
“Our inflation differential with the EU is huge and we’re losing out on competition with other European countries,” says Ms Mazo. “We don’t see the government taking measures to boost competitiveness for Spanish industry. Hence we have an 8% trade deficit, even higher than the US.”
All eyes are on the key property sector, where the question of a hard or soft landing is for Spain as significant as the US situation.
Ready to race
BME is gearing up to meet the competition with the launch of new products like an exchange traded funds (ETF) market. Four licences have been issued to fund managers Barclays Global Investors, BBVA Gestión, Lyxor Asset Management and Santander Asset Management. The ETF market was late in coming to the Spanish market due to fiscal obstacles. BME and FTSE Group have jointly launched a new tradable index, FTSE Latibex Brasil, the only euro-denominated tradable index covering Brazilian stocks, and Mr Hernani says that plans are under way to offer future trading on this index.
“Competition is growing but we are striving to maintain our market position,” says Mr Hernani. “There will always be systemic risks, but we have to work on the assumption that the trading world carries on and that a decline in volumes is a secular trend.”
