Appetite for non-rated bonds

Meor Amri: Some of the non-rated issuances tend to have equity tie-in structures embedded.

PETALING JAYA: The appetite for non-rated bonds, which was once thought to be “inferior” to their rated counterparts, is fast gaining traction in Malaysia.

The removal of the mandatory bond ratings requirement since 2015, stricter lending conditions imposed by banks, prevailing low interest rate environment and higher returns for such papers are among the catalysts that have spurred the demand and issuance of unrated corporate bonds.

Malaysian Rating Corp Bhd (MARC) chief economist Nor Zahidi Alias told StarBiz that the removal of the mandatory bond ratings requirement has helped to simplify the process of issuing bonds by bypassing the process of obtaining a credit rating.

It has also allowed lower-rated firms to tap into the bond market and diversify the local bond market beyond the premium rating realm, he noted.

“Investors are also getting more comfortable with unrated bonds as witnessed by the improvement in liquidity over the years. Since 2017, trade volume for unrated corporate bonds has drastically improved compared to the previous years.

“Stricter lending conditions imposed by banks also encouraged the shift from loans to bonds. Excluding the one-off unrated sukuk issuance from Urusharta Jamaah Sdn Bhd in 2019, gross issuances of unrated corporate bonds year-to-date as of November 2019 were spearheaded by the property and real estate sector.

“The sector contributed about 16% of total unrated corporate bond issuances during the period,” Zahidi said.

Bright outlook: Phoon expects non-rated bond issuance to remain healthy at about RM20bil.Bright outlook: Phoon expects non-rated bond issuance to remain healthy at about RM20bil.

Malaysia’s overall corporate bond issuances remain strong in 2019. In the first 11 months of the year, total gross corporate bond issuances rose to RM119.8bil, the highest year-to-date figure ever recorded.

Robust gross issuance activities for the period was spurred by the tightening credit spreads and the lower yield environment which were caused by the easing of global monetary policies.

The significant rise in issuances was led by the unrated bond segment, namely the unrated corporate bonds which contributed about 37% of total corporate bonds (2014: 9% of total corporate bonds).

Meanwhile, quasi-government bonds contributed about 21% of total corporate bonds (2014: 26% of total corporate bonds). This was in contrast to the previous years where quasi-government bonds have traditionally led the unrated segment.

The slowdown in quasi-government bonds was a reflection of the government’s plans to review large infrastructure projects in order to ease pressure on the country’s contingent liabilities, Zahidi noted.

Maybank Kim Eng head of fixed income research Winson Phoon said he expected non-rated bond issuance to remain healthy at about RM20bil per annum for 2019, accounting for 15%-20% of gross private debt securities (PDS) issuance.

The pick-up in non-rated bonds issuance amid a slower economy and other external headwinds he said was due to such papers becoming tradable from 2015 onwards.

“Secondly, if we take a closer look at what drives unrated bond issuances in the past few years, property and REIT sector stands out. It accounts for close to half of the gross issuances of unrated bonds between 2017 and 2019, by our estimates,” Phoon said.

On size of the unrated bonds market in the country, Bond Pricing Agency Malaysia (BPAM) CEO Meor Amri Meor Ayob said the outstanding amount of the 1,027 unrated bonds as at Dec 3, 2019 stood at RM111.6bil, which exclude unrated short-term instruments and irredeemable convertible unsecured loan stocks.

This amount has more than doubled since the Securities Commission eased the ruling for mandatory rating requirements back in January 2015, he added.

“Besides the relatively higher coupon or profit rate offered by these bonds, some of the non-rated issuances tend to have equity tie-in structures embedded, i.e. convertible or exchangeable bonds or loan stocks. This feature provides much more upside to the investors who are seeking non-plain vanilla bonds,” he said.

Since non-rated bonds and sukuk are normally issued by smaller capitalised companies compared to their larger capitalised peers, they are nimble in corporate execution and is the perfect candidate for the issuance of non-rated bonds or sukuk which can be easily absorbed by the market amid a slower economy and external headwinds, Meor Amri noted.

Meanwhile, RAM Ratings deputy CEO Denise Thean takes a different view. The stated headline number of unrated bonds she said have been “inflated” due to several reasons.

“Included in total corporate bonds market is a sub-segment called quasi-government bonds. These include issuers such as Danainfra, Prasarana, Perbadanan Tabung Pendidikan Tinggi Nasional or PTPTN and Lembaga Pembiayaan Perumahan Sektor Awam.

Inflated number: Thean says some of the unrated bonds are bank loans structured as bonds.Inflated number: Thean says some of the unrated bonds are bank loans structured as bonds.

“Typically these bonds are not rated as they are often issued with a government-guarantee. Over the past few years, issuances of such quasi-government bonds have increased to fund infrastructure/transportation needs such as the MRT.

“For perspective, outstanding quasi-government bonds to GDP ratio stood at 8% as at end-2010. This ratio doubled to 16% as at end-2018.

“Outstanding quasi-government bonds accounted for 20% of total corporate bonds as at end-2010 but this number has risen to 35% as at end-2018. This increase has partly contributed to the rise in percentage of unrated bonds,” she said.

Thean also said some of the unrated bonds are in substance bank loans structured as bonds, to take advantage of the stamp duty exemption.

Further scrutiny of the profile of unrated bonds also reveals that a sizeable proportion is from the property sector, as opposed to being widespread across various sectors, she said.

This, Thean said could suggest that investors take comfort in the property security.

AmBank group chief economist Anthony Dass said non-rated bonds are anticipated to stay robust.

“With global downside risk still on the table as we move into 2020, global monetary easing will remain a key policy in supporting growth.

“Looking at Malaysia, on the back of a steady domestic demand in 2020 amid ongoing funding needs for infrastructure projects, the potential room for OPR cut, and broadly stable credit conditions, it will provide opportunities for issuers to lock in their long-term funding and expect the non-rated bond issuance to stay healthy,” he pointed out.
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