Investment banks in Asia are making more money from debt deals than underwriting stock offerings for the first time, a milestone in how evolving regional markets are challenging a business model that has relied upon high-paying equity deals.
While the bond business is booming and increasing its share of Asia's fee pool, its lower margins mean those gains will not cover the billion-dollar-plus shortfall in equity fees that is making 2012 such a miserable year for investment banks in the region.
Stock-related fees are expected to bounce back, as Asia remains a hot bed for young companies seeking public funding in a high growth market. But with Asia's capital markets maturing, and many of Greater China's large companies now public, the days of stock fees comprising three-quarters of an investment bank's revenue stream appear to be over.
"Everyone's focusing on maximising revenues out of debt, because there's nothing else out there at the moment," said a senior corporate finance source at a global investment bank who did not want to be identified while discussing his firm's revenues.
As of August 29, bonds and syndicated loans make up 40 percent of capital markets fees earned this year by investment banks in Asia Pacific excluding Japan, according to Freeman & Co LLC, a fee consultancy owned by Thomson Reuters.
Fees for debt are about double the typical proportion in the pre-crisis years. The bond percentage is 26 percent, the highest on record, with $1.7 billion in estimated fees, according to Freeman. Fees from syndicated loans account for 14 percent.
At end-August, equity fees are just 36 percent of the year-to-date total, nearing a historic low, with M&A fees accounting for the balance.
"The question is whether this is cyclical, or secular," asked a Hong Kong-based executive at a U.S. investment bank, who did not want to be identified. While the executive did not wish to provide a guess, the data suggests that the balancing out of fee revenues is becoming a secular trend.
Since 2002, equity capital market fees in Asia have comprised up to 55 percent of the total APAC ex Japan investment banking fee pool, with some banks earning mo re than 70 percent of their revenues through stock deals.
In the last two years, equity fee percentages have showed a steady decline.
Revenues from ancillary business from bond deals, such as swaps, are not included in estimates and the data may therefore underestimate how much the top debt franchises are making.
Freeman bases its totals on actual fee disclosures and calculated estimates whenever necessary.
Regardless of how the numbers are sliced, Asian debt sales have far outpaced more lucrative stock sales in 2012, a reversal of a trend that had characterised the region's investment banking industry since it developed 30 years ago.
In 2011, for example, equity fees for APAC ex Japan stood at $5.4 billion, down from a bumper 2010 which saw just over $8 billion, according to the Freeman estimates. By comparison, the first two-thirds of 2012 has yielded only $2.4 billion in equity fees.
Syndicated loan fees stand at $959 million year to date, suggesting a year end total close to 2011's record $1.6 billion.
Record issuance
This year has seen record volumes for Asian bonds, with the more than $80 billion issued in the G3 currencies of dollar, euro and yen in the first eight months already surpassing the total for the full year 2011--itself a record year.
While the switch in fee revenue is good news for debt bankers, it poses a concern for Asia bank executives who know the best years are always when equity revenues are strong.
The going rate for an IPO fee is around 3 percent of the proceeds. By comparison, with the exception of high yield deals, an Asian bond fee can range from 1 percent to 0.1 percent (ten basis points) to virtually free.
"Our budget for DCM is higher than equities for the first time this year, but competition in debt is fierce so you need to be smart on headcount and which deals you chase," said the corporate finance source.
The rising share of fee income from debt fees comes despite the region's slow year in the traditionally lucrative high-yield bond market. That means banks have been especially resourceful in squeezing as much out of their debt business as possible.
Commercial banks such as HSBC, Citi, and Standard Chartered, have used their bigger balance sheets to win bond mandates from clients they lend to, as well as profiting from the tightening of loan supply in Asia.
"The new game in Asia is about aggressive sell-downs for loans, which can be more lucrative than the bond business, something the cleverer banks are waking up to," said a senior capital markets banker at a global bank.
The increase in bond deals in currencies outside the traditional G3 trio means more opportunities for currency swaps alongside the bonds, something that also favours the better-funded banks because better credit ratings allow for more aggressive pricing pitches on swaps.
For the pure investment banks like Goldman Sachs, the focus is to target select opportunities rather than trying to compete with big commercial debt franchises on every deal.
The U.S. investment bank caused a stir among its rivals in June with a $1.75 billion private placement for Malaysian investment vehicle 1MDB, a transaction which triggered fevered speculation as to the size of the fee pocketed.
IFR reported Goldman earned $30 million on that transaction alone, or more than many rival Asia debt franchises might make in a quarter.
Debt syndicate bankers say the current Asia bond boom is being driven much more by intra-regional investment than was the case in the past, with more Asian companies issuing bonds and more Asian investors interested in buying them.
Case in point: in August, a month that is usually quiet in banking circles across the world, six Indian corporates issued bonds that all saw steady demand.
The region's private banking clients are also playing an important part in bolstering demand for bond deals, turning their attention from real estate and equities, although bankers says private banks are claiming a 'concession' of around 25 basis points on s ome deals as a placement fee, further eroding income.
"The increase in Asia bond supply is being driven by reduced lending from banks, the low outright coupons now achievable following the rally in Treasuries, and demand for acquisition financing," said Duncan Phillips, co-head of the debt syndicate desk for Asia Pacific at Citi.
