As corporate debt with a negative yield passes the $1 trillion threshold, the fact that a recent local CRI debenture in Brazil raised only R$538 million ($132 million) in orders for a proposed R$1 billion deal may seem like a good “problem”.
The deal, led by XP Investimentos, scraped together demand for just over half the 10-year deal that paid 20 basis points more than the NTN-B benchmark (3.2%), though it should be noted that CRIs enjoy tax incentives that boost net returns.
The deal was for private hospital operator Rede D’Or, one of the strongest local companies, hence the small spread over the sovereign benchmark. At first blush it could just be a case of overly-aggressive underwriting – the structure of these auctions sets price limits, and then bankers try to convince investors to bid lower. And certainly, demand failed to meet supply.
But it is also a graphic illustration of how the froth that bankers have reported has been growing in local credit markets. Corporate risk premia have collapsed to levels that often make little sense. And, importantly, little nominal return.
International bankers face the stark fact that local rates are now much lower than those on offer in the international markets, especially when swap costs are included.
The bewildering low interest environment has led many investors to switch into equities. Local demand has seen the stock exchange surge – up more than 25% – despite record outflows from foreign investors, which have pulled more than $20 billion out of the Brazilian stock exchange so far this year.
This split in appetite for equity investments between local and international investors is interesting, and potentially important.
For the time being, valuations seem to be driven almost by structural issues, as liquidity flows from local fixed income investments. This could mean valuation mistakes – a perception exemplified by the foreign capital retreat.
This doesn’t necessarily matter as long as the local capital continues to flow. In early August, Roderick Greenlees, global head of Itaú BBA, predicted that market dynamics are supportive for R$100 billion of fresh equity issuance this year (with R$54 billion already printed in the first half).
The domination of local demand is also good news for local investment banks, as they compete for mandates against international investment banks.
Just as these same banks are watching their Argentine investments disappear into the mist of default (and the linked prospect of deals evaporating), the locals in Brazil are pushing their home advantage in equities – and DCM – hard.