In October 2012 the retail bond issued by the London Stock Exchange (LSE) closed six days early, following strong demand from investors for the nine year offering, which had a 4.75% coupon. The LSE issuance marked a turning point and, some would argue, a demonstration that the UK retail bond market can continue the growth that it has experienced since its inception in 2010.
Since the global financial crisis hit back in 2008, stock markets around the globe have experienced unprecedented volatility. This has led to concerned investors, who are no longer certain they want to invest predominately in equities as the promise of a good dividend is not enough to offset lingering concerns around economic growth and market stability. In part, it is this environment that has led to what we are seeing now; a rise in demand for retail bonds.
Retail bonds are an increasingly appealing alternative source of returns for investors. Equities continue to give cause for concern and the poor performance of stocks and indices has left investors searching for other options. If suitably structured and backed by a financially strong company, retail bonds are able to offer predictable returns above the interest rates offered by the high street banks. Investors are also attracted to the well-known brands that we often see associated with a retail bond. However, as the market develops and gains in recognition, an increasingly diverse range of issuers are beginning to tap the market – with smaller, less well-known and, in certain cases, arguably less robust – companies gaining traction and with some structures where investors’ interests may be subordinated to the company’s.
While retail bonds may not be considered a high-risk investment, it is important that retail investors understand not only what a retail bond can add to their investment portfolio in terms of returns and diversification, but also what the potential risks are as outlined in the prospectus. Investors should undertake research and due diligence on the creditworthiness of the issuing company, in much the same way as they would if investing in the equity. Investors should be helped in this regard by the high levels of disclosure that should be contained in the prospectus. Retail bonds are debt instruments and in case of a company defaulting, investors have to understand the ranking of their debt in relation to existing lenders, creditors and other parties. In Lloyds Bank’s work with potential issuers, we focus on ensuring that an issue is appropriately structured and that the risk/reward analysis is clearly explained.
While much of the coverage and attention that retail bonds have garnered recently has been consumer-led, with the analysis and comment focused on what retail investors should consider when investing in them as outlined above, there is an equally important story to be told around their role for the issuing corporates themselves.
The Treasurer’s Perspective
Retail bonds can be a useful tool for treasurers and chief financial officers (CFOs) looking for alternative sources of funding and wishing to diversify their investor base. Company boards are increasingly considering the retail bond market, as it reduces the refinance risk and they now believe that the market is here for the long-term.
Initially, the market was driven by financial institutions but this is now changing and we are clearly seeing a shift towards UK corporates. Notably we are seeing a number of transactions in the property sector, with St Modwen recently issuing its first such issuance. Companies such as interdealer broker ICAP and Lloyd’s insurer Beazley have also issued bonds this year, experiencing demand and closing before the original deadlines set.
Retail bonds are becoming a genuine source of alternative debt finance for UK companies. They enable corporates to issue sub-benchmark of a public bond (a public bond is typically above £250m, while a retail bond can be from about £25m). Also of note is that they do not require a credit rating. This means that unrated companies are able to issue, which clearly gives a number of companies the option to raise this capital in a way that the credit market does not allow. A company can issue a bond for a small amount and get maturities for six years or more. This is attractive for treasurers at smaller firms, who otherwise have limited options available when looking to secure such funding.
A Straightforward Process
Typically the process for a retail bond is between eight and 10 weeks. Within this timeframe a company will need to appoint bookrunners, provide full disclosure (the bond is public so a high level of disclosure is required) and apply to the UK Listing Authority (UKLA). The process is not excessively complex, and once marketing material is in place and awareness of the bond has been raised it culminates in a two to three-day roadshow with stockbrokers, followed by a 10-day marketing period. The relative ease of this process, when considered alongside the smaller tranches of funding that can be raised through a retail bond, makes them a viable tool for a corporate.
A number of well-known companies with strong brands have turned to retail bonds; and though a strong, high-profile brand is not essential for the success of the bond it can help the profile raising and marketing process. If investors know and trust a brand it will attract them more to its retail bond. However, ultimately it will be the merits of the issuance itself on which potential investors will make any decisions.
It is also important that companies issuing retail bonds are upfront and open about why they are doing so. This should come across in both the prospectus and any other marketing or communication to the market.
How To Get it Right
Ultimately success depends upon the specific offering, but I would highlight three areas in which it is crucial that an issuing company gets it right:
- The bonds are issued in an increasingly regulated environment, where there is challenge – including from the press – to confirm that an investment opportunity has been properly structured and clearly explained. Consequently, the appointment of suitable lead managers is key. Public securities are being issued and an issuer will need to ensure that they are happy about its banks’ compliance and risk management procedures.
- Ensure that the debt structure is appropriate for the business, not just for the present but in two or three years down the line.
- Hire a well-respected law firm, as the prospectus is a crucial document and getting this right is a key part of the process.
Since the launch of the LSE’s Order book for Retail Bonds (ORB) in February 2010, over £2.7bn has been raised from the retail bond market with almost £1.3bn raised in 2012 to date. Over time, we anticipate this figure will rise to £2bn or more per year. In comparison to the overall UK investment market, the size might not seem vast. However, it demonstrates a significant shift in attitude and a highly encouraging trend for those companies that may be considering a retail bond.
Increasingly, we will see retail bonds feature more in the corporate world with rated, as well as non-credit rated, companies looking to issue bonds. In addition we will see a wider range of sectors looking at retail bonds, with the industry already broadening out from financials and properties to utilities and well-known high street brands.
Already, retail bonds are a compelling option for CFOs and treasurers to have up their sleeve; they offer an efficient route to long term debt finance and the pricing continues to become more closely aligned to that seen in the institutional market. This market is set to grow, as a greater range of companies look to it as a source of funding.
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