Societe Generale Americas Equity Capital Markets Review and Outlook

David, it’s clearly been an unprecedented last few months for the world across a myriad of areas with the impact of COVID-19. How has Equity Capital Markets activity been affected?

Well, as expected, there was an immediate reaction in ECM activity to COVID-19. As equity markets crashed mid-March, we saw ECM activity freeze for 2-3 weeks. Then, and this mirrored the ECM market reaction to the 2008 crash, beginning in early April there was a sustained flow of what we are calling ‘rescue’ equity. Namely public and private equity and equity-linked issuance by those companies and sectors who were clearly going to be the worst hit by COVID-19. These companies had seen their stocks drop 50-70% in a matter of weeks, and on the funding side had pretty much fully drawn on their bank financing lines. It was no secret the airlines, cruise-liners and several in-store retailers needed to line up to issue equity. Interestingly, this series of capital markets transactions attracted very strong investor demand, and a number of the deals were upsized and then priced attractively for the issuer. Southwest Airlines is a great example; its dual equity and convertible in April was upsized from $2.5 billion to $4.0 billion. 

Then, as equity investors became more confident that economic fortunes would recover; off the back of firstly unprecedented monetary stimulus by the Federal Reserve and fiscal stimulus and support from the Federal Government, and secondly the signs of a re-opening of the economy, there was a surge in ECM issuance in May and June to record levels. Already-public companies raised $110 billion in Q2; which is the most for any quarter ever. This level of activity then started to flow over to the IPO market; where the success of the $1.9 billion IPO for Warner Music in the first week of June gave heightened confidence to IPO investors. For the month of June, 47 IPOs priced, raising $17.6 billion; making it the busiest month since September 2014.

If we look ahead, do you see any lasting impacts from COVID-19 on ECM issuance?

I would break this down into a couple of specific areas.

First, let’s take a look at how ECM transactions are marketed and executed. For already public companies this has been for the most part a one-day roadshow of conference calls. Whereas for IPOs it had always been a jammed schedule of 7-8 days flying from one financial center to another for dawn-to-dusk days of one-to-one in-person meetings. Now, COVID-19 has completely changed the marketing approach for IPOs. All meetings are done by video and audio conference calls and the schedules are being compressed, typically to 4 days of marketing. With high-quality video-conferencing software available, I think that future IPO roadshows will continue to be done remotely. This is a lot more efficient for management teams, who will not be pulled away nearly as much from running their companies.

Second, my feedback from investors and from corporate clients we talk to is that, even if COVID-19 is completely eliminated, there is a feeling that participants are going to permanently adopt quite a number of the remote/work-at-home features. This will feed into a secular shift to greater spending on technology for ‘at-home’ work and on-line providers such as Amazon and Chewy. Companies who are able to address the needs of the ‘remote’ economy will fuel the future IPO pipeline. Here’s a good example: outdoor furniture manufacturer AZEK had a very successful IPO in early June; its business model seen as directly benefiting from people spending more on ‘at-home’ living and entertaining.

A third impact will flow from an expectation that the very large increase in stock volatility in recent months is not just a passing phenomenon. This is rooted in the fact that we are living through a totally global pandemic, which of yet has no immediate cure. Every news item, good or bad, about length of the recovery/possible future pandemics/potential vaccines will cause big swings in equity markets and so a spike up in stock volatility. The convertible market is particularly sensitive to stock volatility levels; namely the higher the volatility, the better the terms available to issuers (lower coupon/higher conversion premium). 

You touched on the convertible market. Can you walk us through some of the trends you are seeing in that market?

The only words to describe it are ‘it’s a market on fire’. May was a record month for issuance volumes and June was also a very busy month. The two drivers are on both the issuer side and on the investor side. 

On the issuer side, companies are achieving historically attractive pricing (low coupon/high conversion premium). The big driver of this pricing dynamic is the dramatic increase in stock volatility since COVID-19. Just to give you a data-point there; the average volatility for all S&P 500 companies has increased from 24.6% at the end of 2019 to 74.3% at June 30.

The issues in recent months include a mix of fast-growing companies in technology, healthcare, and consumer sectors. These companies have historically always been convert issuers and typically represented 80-85% of annual issuance. What changed with COVID-19 is that we see companies who ‘had their backs to the wall’ and were hit severely by COVID-19, such as airlines, cruise liners, raising convertible financing to support their liquidity, and at a low coupon cost compared to debt financing.

On the investor side, convertibles are particularly attractive at the moment, being an effective way to pursue risk-managed exposure to the upside in equities while ensuring protection on the downside. The convertible market has historically provided a degree resiliency to investors during times of elevated market volatility – which has now been proven once again.

I am interested to know whether COVID-19 has had an impact on ESG-SRI investing?

Yes, indeed. Prior to COVID-19, E (‘Environment’) was generally considered as the most important component of ESG. This included a focus on climate change, carbon footprint and renewable energy. On the S (‘Social’) and G (“Governance’) parts of ESG, attention was more on diversity.

What we have seen with COVID-19 is not so much a lessening of the importance of E, but a greater weight being given than previously to the S and G components. Specifically, this covers how companies respond and engage with all stakeholders; of course shareholders, but also employees, customers, and governmental authorities. Issues that have come to the forefront include the ‘resilience’ of a business to a major calamity, contingency planning and risk mitigation, and also how secure is a company’s supply chain.

One other accelerating trend on ESG, which was already afoot prior to COVID-19, is the start by rating agencies to include ESG metrics within their credit rating.

Now if we look overseas, what has been the effect post COVID-19 on Europe and China?

Europe’s economy was hit very similarly on the downside to the U.S. The big difference on attempts to come out of the recession is that, while the U.S. has one national central bank, who was able to take immediate and wide-ranging action to support the U.S. economy, Europe’s central bank doesn’t have nearly the same ability. Similarly, the U.S. Administration can take more impactful and coordinated fiscal action than still fairly independent European countries.

On the ECM front, there has been a steady stream of follow-on and convertibles; but nowhere near at the pace of U.S. activity. From Europe, we saw a very successful IPO for the global coffee company JD Peet; which raised E2.6 billion at end-May.

China’s equity markets got hit earlier than the U.S. and Europe as China felt the full force of the virus on the economy about two months before the U.S. Chinese equity markets have recovered; and the benchmark Shanghai Composite is now up 1.6% YTD to June 30. On the ECM front, there has been a number of Chinese technology IPOs listing on the U.S. market, led by cloud company Kingsoft Cloud, and for the most part they have been successful transactions. At the same time feedback from investors we talk to indicates a lingering concern about quality of earnings and governance at Chinese companies; so, I think we are going to see a high degree of selectivity from accounts when looking at U.S. listings by Chinese companies.

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