Corporate Financing Analysis - Perpetual Bonds To Lose Their Shine In 2018 - 08 JAN 2018


After a bumper year for deals in 2017, BMI expects to see perpetual bond note sales slow across the course of 2018, reacting in an inverse to the hike in interest rates in key market across the globe. Led by the banking sector in Asia, the global perpetual bond market enjoyed a banner run of issuance in 2017. Indeed, thanks to Asia's growing taste for debt with no set maturities, the market for perpetual bonds came close to reaching new highs in 2017 but eventually fell slightly short of 2014's haul. According to Bloomberg data, perpetual bond pricing globally totalled USD215,191mn across 784 deals in 2017. This represents an increase in both deal value and deal volume from the USD181,189 raised from 548 perpetual bond pricings in 2016. The USD277,986mn raised across 302 note sales during the 2014 full-year period, however, still represents the record high for perpetual bond note sales. The bull run simply cannot last though - this is BMI's core view. As rates begin to rise, so too will the risk associated with perpetual bonds, subsequently making them less attractive to investors and which will see the volume of deals trending lower as the year goes on. In sum, when the going is good, and interest rates are low, perpetual bonds will always prove to be popular in the debt capital market (dcm) arena. When conditions are less favourable and rates increase, however, perpetual bonds and their long-dated maturities will inevitably lose their appeal.

Plenty Of Benefits But Significant Downside Risks

It was not long ago that perpetual notes were very much on the periphery of the debt capital market (dcm) investors' portfolio, but over recent years we have seen such bond instruments move into the mainstream. Indeed, such notes carry plenty of clear benefits. For issuers, sales of perpetual bonds represent the golden opportunity to lock in finance at a time of historically low rates (over a longer period); perpetual bonds also offer a cheaper avenue than in the case of raising equity. For non-financial firms, it also represents the chance to strengthen balance sheets and support credit ratings. On the opposite side of the equation, investors are lured into buying up perpetual debt by the possibility of securing extra returns through longer-dated bonds. Furthermore, we highlight that such instruments allow cornerstone investors, such as pension funds and insurers, to strike a better balance of assets and liabilities in their investment portfolios too. BMI cautions that such plentiful benefits are understandably balanced out by plenty of downside factors too: perpetual bonds are, after all, among the most volatile debt types and are always the last to be paid off in a bankruptcy case, meaning that in a sell-off (such as the one we are predicting when the Fed starts meddling with rates again in Q118) investors are left exposed and vulnerable, which is the opposite of what they want to be. Given that such deals carry plenty of risk, their enduring popularity in 2017 represents a sure sign of frothiness in markets, which is certainly what we have seen in equity capital markets and in the investment community at large in Q417. In 2018, we expect investors to be more mindful of these risks and steadily move away from perpetual bonds as rates begin to rise.

2017: A Busy Year
Global Perpetual Bond Seals By Deal Value, USDmn
Source: BMI, Bloomberg

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