Geraldine Lambe analyses trends in the global equity market for the first half of 2010, and gauges how the second half might pan out.
It has been an unpredictable first half of the year for the equity markets. A large number of launched deals have been pulled amid volatile markets. The best performing markets in Q1 were the worst performing markets in Q2. Many believe the second half of 2010 will be as volatile as the first.
Globally, equity capital market (ECM) volume fell 4% to $338bn in the first half of 2010, according to data provider Dealogic. Hampered by volatility, issuance in the second quarter reached $163.1bn, compared with the first quarter's $174.7bn. The second quarter witnessed the lowest Q2 volume since 2005, and was down 42% compared with the $279.5bn raised at the height of the recapitalisation boom in the second quarter of 2009.
Asia Pacific drives IPOs
Although global initial public offering (IPO) volume rose to $98.5bn, the picture is one of continued strength in Asia but a decline in the US and European markets. Asia-Pacific volumes accounted for more than half of the global total in the second quarter, and four of the 10 largest IPOs completed in the quarter came from the region - a trend continued with the bumper IPO from the Agricultural Bank of China in early July. This contrasts starkly to the US and Europe, the Middle East and Africa (EMEA), where volumes declined by 28% and 34%, respectively, in the first half of the year.
A key reason for this, says Craig Coben, head of ECM for EMEA at Bank of America Merrill Lynch, is that the region's new listings do not fulfil investor appetite for growth. "Many European companies are not offering the compelling growth story that investors want. Investors are looking for endogenous growth and for growth in aggregate demand; this makes opportunities in Asia-Pacific and other emerging regions look more attractive."
Fears over the future economic growth in the eurozone mean that investors remain cautious. "Investors are looking carefully at top-line or earnings per share growth, and are asking questions about the barriers to entry for competitors," says Mr Coben.
Volatility kills IPOs
With much of the first half of the year dogged by volatility, markets have oscillated between rally and correction. This scenario is here to stay, says Viswas Raghavan, head of international capital markets at JPMorgan. "There is still a lot of uncertainty about the economic recovery, so for the next 12 to 18 months it's likely that the markets will overreact - negatively and positively - to any economic data."
This helps to explain the high percentage of deals that were pulled in the first half of the year. When the Vix Index - a measure of implied volatility - rises above 30, this makes a successful flotation much less likely. The violent swings in market sentiment in late January and early February, and again in the second half of May, led to a high failure rate. According to data from Dealogic, of IPO deals launched in the first half of 2010, failure rates ranged from 50% (BNP Paribas pulled two deals of four launched) to 6% (JPMorgan pulled one of 17 launched). A number of other global investment banks suffered failure rates of between 20% and 29%.
A sure sign of such choppy markets is the re-emergence of decoupled bookbuilding - when banks announce the price range at the end of an accelerated two- to three-day bookbuild. "The world can change in the three weeks of a traditional roadshow, so the price range as initially announced may no longer be relevant," says Mr Raghavan. "Decoupling the process helps to mitigate that pricing risk."
Aggressive valuations
Others argue that aggressive pricing has contributed to some of the failed IPOs this year. One contentious deal, which nonetheless got out of the starting gate, was the IPO of UK online grocer Ocado. In the run-up to its July listing, many compared the valuation of between £800m ($1.26bn) and £1.1bn for a company that has yet to turn a profit to deals done at the height of the dot-com bubble.
Just before launch, advisors UBS, Goldman Sachs and JPMorgan Cazenove lowered the price range to 180p-200p (from an initial 200p-297p per share), with the final issue price of 180p giving the group a market value of £937m. On its first day of conditional trading, shares slipped to 159p, valuing the company at £853m. As The Banker went to press, Ocado was trading at 146p.
With markets in a fickle mood, liquid companies will find it easier to raise equity capital. "In volatile markets, large caps tend to outperform small caps and to focus investors' minds on liquidity. Deals with a large proportion of free float - perceived as a proxy for liquidity - will likely perform better," says Mr Coben.
And good quality stories will dominate investor appetite. Mr Raghavan says the deal pipeline is strong, it's more a question of when deals will get done. "There is appetite out there but it is definitely selective," he says. "Marginal stories may well have to wait for a better environment."
