Vito Sperduto 00:05
Hello and welcome to strategic alternatives, where we uncover new ways to raise capital, drive growth and create value in an ever changing world with insights and outlooks from experts across RBC Capital Markets. I'm Vito Sperduto, head of RBC Capital Markets in the US.
Today, I get the pleasure of speaking with two leaders of our Debt Capital Markets team from different global offices. Rob lamb, who's the head of European Debt Capital Markets and syndicate joins us from London, and we've also got Patrick McDonald with us today, who is the CO head of Canadian DCM. Welcome to the podcast, gentlemen.
Rob 00:57
It's great to be here. Vito.
Patrick 00:59
Thanks for having us. Vito,
Vito 01:02
In this episode, we'll explore the regional trends influencing our business in both Canada and Europe, as well as the US, and how RBC is leveraging its expertise across our Debt Capital Markets business and beyond to enhance our offering and better align with clients needs on a global scale.
So, Patrick, why don't we start with you, maybe very briefly, what are some of the key market themes in the bond market that you're seeing today, what's emerged in 2024 it's been a pretty fast paced market, but we'd love to hear your perspectives.
Patrick 02:09
We've had a very active market across a number of different sectors, several borrowers pulling funding plans forward to each one in light of market concerns and potential volatility as we move into the second half of the year, in light of the pending US elections.
When looking at the supply and the deal flow, it's been very healthy. It's been diversified across a number of sectors. The supply is ranged across ratings, maturities and products. Taking a closer look at the deal metrics and how the receptivity from the market has emerged very favorable backdrops. We've had reduced new issue concessions. We've had strong levels of order subscription in most order books, encouraging to see the breadth and depth of the order books that have emerged throughout 2024 here, specifically in Canada, we've had a notable increase in high yield. We've had a notable increase in Maple issuance. This is international clients tapping the Canadian market, and we've also had record levels of project finance deals getting done successfully in the Canadian market.
On the product side, one consistent theme that we've seen emerge in Canada and around the globe is the increased and the added momentum in hybrid capital structures, we've seen in an uptick in volume by financial institutions for this product, looking to shore up their regulatory capital. And on the corporate side, corporates have taken advantage of the attractive pricing, the attractive coupons, and they've issued this rating agency friendly capital.
Finally, I'd suggest that a number of our corporate clients have had drawn bank debt get refinanced in the bond market. The bond market like for like maturities on drawn cases has provided more favorable funding conditions, more favorable pricing dynamics, and as such, we've seen the bond market taking out bank financing.
Rob 05:13
You know, I'd say the same for Europe, Patrick, everybody came back to the office in January. They were more accustomed to higher yields, more accustomed to funding in this kind of rate environment, and through 2024 they've executed on those ambitious plans, and they probably issued a little bit more than they planned to at the beginning, as they've seen yields fall and they've seen credit spreads reduce over that period of time. So that's led to a real uptick in volume here as well.
So we've seen a 28% pick up in European corporate supply, and we've seen that European mid swap rate fall by 1% over the period from mid 2023 so really nice funding conditions for corporates.
And of the biggest deals in Europe this year, the biggest 10 deals, five have been from US companies –reverse Yankee companies that are looking at the low coupons that we have here, and for those that have net investment hedge capacity, those low yields are really attracting them to the to the euro market.
So that's for corporates, for Financials, similar things. So a front loading of supply, and part of that, I guess, is going to come down to elections in general, which we'll talk about a little bit later on. But most of the banks had 75% of their funding finished for 2024 just in the first half of the year, bank supply in general wasn't expected to be as high as usual, because deposits have been sticky for Western European banks, and loan growth has been relatively modest, but that said a really nice volume of supply. And if there's one asset class in particular, from a financial institution standpoint, that's attracted a lot of attention, that's additional tier one. So hybrid capital for banks, similar to the hybrid capital theme that Patrick mentioned – a nice opportunity for investors to lock in relatively high yields here, and the funding environment encourages banks to make those calls, which is encourage additional tier one supply. And we might be on for a record year for a tier 1 product.
Vito Sperduto 07:03
Why don't we pivot a second and just kind of take a look forward, maybe over the next even just six weeks, as we all try to spend the next six weeks of time forecasting what's going to happen with the US elections and certainly, you know, a lot of our big multinational clients have views. They're constantly asking us for our perspective in terms of what are we thinking based on which candidate wins the US presidential election in terms of interest rates, regulatory policy. How is it going to impact geopolitical situations that are going on around the globe, and what does it portend for your market? But look, I think right now, the betting markets are talking about a split government, meaning a democratic presidency, a Republican Senate and a Democratic House here in the US. But give me some thoughts in terms of how the US election is impacting your individual markets.
Rob 08:56
Great, sure. And obviously, we're talking, you know, my perspective is through the lens of a European issuer. But that said, plenty of these European companies have huge US operations, and the elections are obviously a really big deal. Also bear in mind the fact that in Europe, it's been a big election year, so we've had UK elections and French elections, which have definitely played on the minds of issuers and encourage that front ended, front loading of issue and study talked about at the beginning, in general, you know, those elections came and went, and issuers plowed through and carried on. They had a funding requirement for the first half those needs have been met largely.
And as we look ahead, we thought that the first half of the year would be met where most of that supply comes. In fact, we've been really surprised that the amount of activity that we've seen in the last few weeks, both in Europe and the US. So record volumes after Labor Day, from US dollar perspective, and huge volumes here in Europe as we've executed Euro transactions for likes of Lufthansa uni by. Uh, LSE, and a couple of banks in sterling. So the supply may have been front loaded, but I have the sense that markets stay open for the next three or four weeks, and issuers increasingly think about 2025, funding requirements, and they switch from, Haven't I already issued a lot to actually, shouldn't I be thinking about my liability profile for next year and get ahead of 2025 funding.
It might be the case that when we get to the week of the US election, and maybe for a couple of weeks afterwards, markets are less accessible, but we feel really constructive over the next few weeks, and we just see that supply continuing, and there is a sense in which issuers are just going to drive through the election noise.
Vito Sperduto 10:47
Yeah, you know, Rob, I think that's a that's a great point. I think what one of the Councils I've given to clients is that, as I look forward towards the election, we've been saying this for months, I think there's a lot of noise around the election itself AND a lot of volatility, and I think that's going to prompt some people to sit on the sidelines while that's going on, but it's not going to stop activity. So maybe, Patrick, what are you seeing in your market?
Patrick 11:13
Yeah, just echo some of Rob's comments and completely agree with you. Vito, I'd suggest the majority of corporate borrowers are well positioned to manage through any volatility that we do see evolve through the US elections, certainly large cash balances sitting on many corporate balance sheets, contingent liquidity options in place, and as we discussed already, a lot of pre funding getting done in h1 so certainly a very well positioned corporate landscape as we go into the election. In the event that we do see volatility, our general expectation is that the market will stabilize. And given the current strong backdrop, the easing bias that we have from central banks, we continue to believe we're going to see a very constructive backdrop once we get through the election.
Vito 12:20
You know, certainly over the past few years, we've seen a lot of our clients take advantage of the low interest rate environments to raise capital refinance their balance sheets, and generally have extra funds available for different items, whether it's, you know, to be honest, share buybacks, to finance M and A transactions, and just general corporate purposes. But as we, as we sit here today, and as we're, about to head into an interest rate cutting cycle, what's the current state of play in terms of corporate balance sheets? What are you seeing out there? Do you think the leverage levels are at the right places?
Rob 13:37
Yeah, I mean, corporate balance sheets are in a good place right now, we've had great trading conditions in most major economies, and m&a has been absent a couple of mega transactions, relatively low, relatively stymied for the last few quarters. So companies, as you said, have been focused instead on share buybacks. And over the last year, there's been a trillion dollars of shares repurchased by the biggest US companies, albeit they've still got over $2 trillion of cash on their balance sheet, according to Moodys right now
in Europe, those buybacks have happened, but they've been less pronounced that we've had 150 billion of share repurchases, but dividends have generally gone up over that period of time. Cash has come off a little bit. We've got one and a half trillion euros of cash on corporate balance sheets, and it leaves leverage around two and a half times now, versus sort of 2.3 times in 2023 by historic standards, they're relatively low levels. And corporate Europe, and I guess, you know, global corporates, are in a really strong position now, as we look forward into next year.
So I guess there are questions around when the m&a cycle turns, and we're starting to see the early signs of that. Now we're seeing a few large m&a transactions come to light in Europe. Recently, you'd witness the Deutsche Bahn transaction with DSV, and it's a 20 billion euro acquisition, the largest of the year to date for their logistics assets. We're seeing a bigger pipeline there build. Patrick, I would imagine it's a similar, similar sorts of themes in Canada.
Patrick 15:11
Yeah, no, absolutely… similar themes that we're seeing in Canada. Certainly here at RBC, we've had an increased level of dialog around M and A opportunities and the debt capital market side, we've had the opportunity to engage our colleagues on the coverage side, and also with the M and A bankers,
As the M&A situation continues to improve, we're certainly believing that the market will be receptive to debt finance acquisitions, and when we look at some of those conversations that we've had around the packages that that could evolve, three themes I believe that have emerged.
One is callable structures. When we look at a financing package in the bond market that could evolve, inevitably, you're looking at a variety of tenors that would tap the bond market. And the callable structure is a theme that's evolved over the last number of years, and this enables issuers, whereby they have the opportunity to accelerate any deleveraging in a M&A situation, to redeem and prepay their most likely short term debt with these callable structures.
Another notable financing structure that we touched on earlier, evolving out of M and A situations, is hybrid capital. It's certainly topical. It helps you maximize and optimize your debt capacity by tapping a product that captures 50% equity credit from the rating agency and 50% contributing to debt. So again, maximizing capacity through hybrid capital for M and A situations.
And finally, the theme around size and capacity again, whether you look at Euro, sterling dollars, Canadian dollars, the capacity that is available for M and A situations is very encouraging. And as such, most M and A situations can be financed in the debt market.
Vito Sperduto 17:24
Ss we sit back, you know, how are the big corporates thinking about financing conditions, whether it's through a fixed or a floating rate lens, in a cycle like this right now.
Rob 18:39
I mean corporates in general and banks in general are obviously hoping to see lower yields as policies.
We're seeing global central bank's cut rates in response to reduced inflation, growth concern and unemployment, that's fair to say, but it remains to. Seen where we finish up in each currency, and what that means for the term structure of interest rates across each of the different markets that our clients care about. Hard to have a conviction view on which way yields are going in any given currency. And probably the same goes for spreads. So we've seen massive compression through 2024 some of the high beta products, hybrid capital, additional tier one have seen great performance, and it's hard to say for definite that spreads are going to be any wider or any tighter into next year. A lot of that will depend on underlying volatility. A lot will depend on where rates end up. And so really it's about tactics as we go into 2025 thinking about the timing of funding, thinking about the way that you layer in different currencies, thinking about diversifying a currency mix, you know, and that's where kind of RBC can play to its strengths in being able to offer currency agnostic advice across all of the global currencies.
Patrick 21:03
Just picking up on on some of the points Rob made, many of the borrowers we speak to are very focused on locking in fixed rates, and as such, the floating rate, the variable rate, is not often utilized in the bond market. Tends to be a market that gets exercised in the bank market, commercial pepper market, the lease market, or even the securitization so I would suggest most of our clients on the bond side are very focused on fixed rates.
Rob touched on the compression that we've continued to see in corporate bond spreads, and when you layer in where underlying yields have moved further out the curve, whether it be 5, 10, 30 year rates, we are sitting with underlying fixed cost close to two year lows, so certainly very attractive funding rate environment, which we believe many of our clients have already capitalized on, and have been able to take advantage of, The expectation that the base rate will move lower going forward,
taking a quick snapshot at the perspectives from the Bank of Canada side and and reflecting on our economist, the view here at RBC is base rates will continue to fall in 24 and 25 it's important to point out that the Bank of Canada has already cut 25 basis points three consecutive times. This move most recently, it was widely expected, and as a result, relatively muted reaction from the market. Bank of Canada continues to lead the rate cutting cycle for central banks globally, and as we move into the tail end of 2025 if we can look that that far out, we're expecting another 125 basis points of further cuts to come, and we're likely to see 2025 end at 3% but again, back to our economist forecast relatively stable five and 10 year rates as we as we look ahead and as a as a result, despite this continued easing from the Fed, the Bank of Canada and many other central banks, the view is that longer term rates will remain relatively stable throughout 2024 and 25
Vito Sperduto 23:48
You know, Rob, just curious in terms of some of the commentary on how we're seeing this, especially for in a fixed versus floating rate lens. Are you seeing any differences between various industry sectors? Is one industry sector better positioned or more looking forward to the upcoming cycle?
Rob 25:06
Yeah. I mean, I guess the real estate sector's had a hard time over the last couple of years, while rates have been as high as they have, and they're probably now benefiting as rates reduce. And as I said, we're back inside 2023 levels and on a lowering bias when it comes to overall yield. They're going to be one of the beneficiaries of a lower yield environment when it comes to their overall credit profile, and we expect for them to continue that funding momentum into 2025
Patrick 25:59
Yeah, it's interesting to see how the interconnectivity between markets and products exist in global financial markets. When we look at that decline in underlying interest rates that Rob made reference to, we're already seeing share price appreciation for Canadian real estate companies in light of the expectation that lower underlying interest rates, lower funding costs, will help improve the performance for these real estate companies locally in Canada.
Vito Sperduto 26:41
Why don't we talk about, you know how your market deals with financing in different currencies? I mean, Patrick, I know that our footprint in terms of having very strong Debt Capital Markets capabilities across the globe positions as well, to especially deal with many of our multinational clients who are looking to diversify funding sources, maybe manage currency risk and tap into investor bases across various regions, especially taking advantage of what might be a more opportune situation in one region versus another. You know, tell us a little bit in terms of what you're seeing in that regard, as folks are looking at different currency situations, and maybe, how are they managing that from a hedging perspective?
27:43
Yeah, we're certainly seeing am increasing number of issuers globally look at a variety of currencies to take advantage of different dynamics in one market versus another. As we see increased volatility, certainly this comes into play whereby one market may be providing more favorable rate environment for a corporate. I'd suggest there's a number of various drivers in this decision making process. When looking at what market to tap, simply put, when looking at funding costs, this could drive one market versus another, natural currency requirements. Here in Canada, we've got oil and gas companies, we've got transportation sectors that do require US dollars or Canadian dollars, and as such, they may be more favorably exposed to to one currency or another.
Another driver may simply be use of proceeds. An M and A environment may create a need a. In one currency over another, we have seen the interest rate differential come into play. We've had a number of large international multinational companies tap the Canadian market, given its lower underlying interest rate relative to the US market, and as such, have tapped what we call the maple market here in Canada.
You know, the final driver in your decision to choose a market is often driven by market capacity, M and a situation certainly will drive larger financing requirements. And we've seen companies look at a variety of currencies, in some cases, tap multi-currency opportunity sets, whereby they're looking to tap the Canadian market and the US market simultaneously.
31:23
I'd say that European companies readily fund in all global markets, pretty au fait with derivatives, pretty comfortable with the accounting, and therefore look at the cheapest to deliver currency. And for the last few years, that's been euros, as we've had ECB intervention in both government bond markets, corporate bond markets, and for Financials, that's been pulled back a bit over the last 12 months, and there's been more focus on the depth of that Euro market. It probably continues to offer most advantageous pricing for a lot of European companies and those sort of intermediate dates. But you question the depth of demand. Sometimes it's there, sometimes less so, and definitely not such a deep market as the US and right now, probably not open in the same kind of duration.
So an open mindedness to US dollars, especially when it comes to taking size and taking duration and witness there the long data transaction that we did for Vodafone, a $3 billion deal in 30 and 40 years, in the first half of this year, which capitalized on those, those aspects.
And we've also seen a great demand for higher beta product going further down the capital stack, again into that additional tier one and hybrid capital format in US dollars and Sterling, so euros feels natural, equally, a great open mindedness to the other currencies, and the one in particular this year that's probably been hotter than it has in the past is the Australian dollar market. And that's really because there's been a pivot of asset allocation from the large superannuation funds there, switching across from equity into fixed income, and that, together with growing demand from Asia, has led to some really big order books there, and a couple of standout transactions. We were delighted to work with Nestle, as they raised over a billion dollar in that dollars in that market, over two tranches, inaugural transaction for BFCM, a very large French bank. And those transactions were coming flat or inside us dollars on a post swap basis.
Vito Sperduto 33:25
Well, that's great. And I think that leads into my, my next question, which is, you know, when you know, if you think about the name of this podcast, it's strategic alternatives, because, in the most basic sense, we're always advising our clients on what alternatives they have available to themselves as they think about the go forward markets. In some cases, we're helping them think about refinancing alternatives, preparing themselves for the for the future. Sometimes they are more M and A focused alternatives, but it's always trying to think about those and comparing them to the status quo, and as all three of us have advised clients, the most important thing is to be to be prepared and informed, to make decisions as they come along. And so maybe with that in mind, you know, when it comes to deals we're targeting and participating in, are there particular sectors, deal sizes we're focusing on, you know, sort of what? Where do you believe that we're best placed to provide the most value to clients? Rob, why don't we turn to you first?
Rob 35:26
Thanks. Vito, yeah. Firstly, just to address the comments you made on the advice that we give to clients, I totally agree with you. I think we'd like to be recognized for giving thoughtful, balanced, currency agnostic advice. And we work in a super competitive market, and the only way to really differentiate is to be able to offer that balanced feedback. And so it's absolutely with that in mind that we've been focusing on all these aspects around currency diversification, market capacity, etc.
It's probably market capacity that's driving the biggest sector trend that we're seeing here in Europe, and that really is around the utility sector and the amount of capital expenditure that's going to be required to finance energy transition as we electrify our networks and the pressure that comes onto them with new innovations around AI, data storage and others. So we're expecting a 50% growth in debt finance from this sector over the next five years, and that we see as being a really big opportunity. Along with that debt, there's also equity considerations. There's also considerations around EPS dilution, the introduction of hybrid capital for various utilities, and working with our colleagues in investment banking, and just to mention here that our Debt Capital Markets business now rolls up into investment banking, we've got great sector credentials and utilities, renewables and infrastructure, and that positions us really well, working together with our WSG colleagues to talk to big companies about financing the transition. So from our standpoint, we're excited about the opportunity, and it's something we're really focused on over the next 12 months.
Vito 38:35
So maybe Patrick, as we finish off, I mean, I think we're always asked a lot of questions in terms of, what are we seeing in the future, and on whether it's rate cuts, elections, geopolitical situations, and how are you advising clients to make decisions in a world with such uncertainty? I'm always just thinking about what are good strategic transactions for them to pursue that have real rationale related to their businesses. And then I always think about it that, hey, if it makes sense for you from a business perspective, we'll figure out how best to structure and finance it. But I'd love your perspective on how are you advising companies to fund sensibly in this environment, especially when you think about a number of the headwinds out there and some of the uncertainty, including the geopolitical situations around the globe.
Patrick 39:54
Yeah, thanks, Vito. And when we think of geopolitical events, when we think of headwinds, you. In any given year, inevitably, we always face market volatility, and consistently, the view from our side is financial flexibility. It's all about recognizing that even in volatile backdrops, you are going to find windows of stability, and they will emerge so financial flexibility, unquestionably, is a key given the uncertainty, issuers need to, need to remain nimble. They need to approach the execution windows with that financial flexibility. an optimal approach may maybe simply just pulling forward your funding plans, may simply be being patient wait for better windows. It may be looking to explore multi currency approaches to any offering. Once the market, you know, has been identified, we have consistently found a multi tranche scenario offers increased flexibility whereby an issuer is tapping multiple maturities across the curve. This enables you to price and allocate into demand. Gives you the opportunity to toggle between different maturities, and again, more options, more flexibility as we face these uncertain times.
Vito Sperduto 42:09
Well, look, I think that's a valuable point that we can end this on today. And I really enjoyed the insights from both of you, especially in relation to what's going on in your each of your markets, and how it applies from a global context for our clients and just to remind the listeners, you know, the team here at RBC on the debt capital market side is over 80 bankers strong, with roughly about 25 people in each of Canada and Europe. And you know, a really well positioned to provide the best advice to our clients in these challenging markets where we're really trying to find the opportunities regardless and where the market is. So thank you again, guys, and look forward to having a further conversation in the future.
You have been listening to strategic alternatives, the RBC Capital Markets podcast. This episode was recorded on September 17, 2024. Listen and subscribe to strategic alternatives on Apple podcasts, Spotify, or wherever you listen to your podcasts, if you enjoyed the podcast, please leave us a review and share the Podcast with others.