THE amount of capital that can be raised through convertible bond and preference share issues should not be regarded as limitless, investment bankers in Hong Kong warn. Euro-convertible cash-raising needs to be allowed to develop in a steady, orderly manner, says Jardine Fleming Securities director Colin Hermon. Aggressive issues involving low-quality debt, multiple issue pile-ups and placement difficulties could badly damage the market for years to come. Many US investment bankers believe likewise, but would not comment for US regulatory reasons. Hong Kong needs to ensure it avoids repeating the mistakes of countries such as Indonesia, where the proliferation of issues has proved indigestible. Mr Hermon said the reception of Hong Kong convertible paper by institutions would depend on price, the quality of the debt, the depth of liquidity in the secondary market and issues being spaced to avoid clashes. ''On a fundamental basis the conditions for issuing this kind of debt now are probably the best I have seen,'' said Mr Hermon. Given the low interest rate environment in the United States, with US Treasury 30-year bills below six per cent and five-year bills below five per cent, moderately high yielding convertibles are well received. Low inflation in the West has helped secure relatively high positive yields. Institutional appetite in Britain, the United States and continental Europe, especially from large investors in Switzerland, for this type of debt from Asia is growing. Meanwhile, in Hong Kong the traditional debt-raising route, bank syndication, is becoming a tougher one to follow. In the first place banks are reining back their exposure to any form of property-linked loan syndication work, which has hit the property developers. Furthermore, many of the banks, led by HSBC and Hang Seng Bank, are girding themselves for the anticipated surge in loan demand resulting from the airport and port projects. Jardine Fleming foresees a period of continued syndicated loan margin growth due to airport financing. ''Whereas top local credits were borrowing at rates as attractive as 37 to 50 basis points over Hong Kong interbank offered rates in early 1992, the margin has now widened roughly to 100 to 120 basis points, with further widening to 120 to 150 basis points expected,'' said the brokerage. In the absence of Japanese lenders, companies of all sorts, particularly developers, are going to find it more expensive to borrow. Hence the convertible issues from Amoy Properties and Sino Land. Vickers Ballas Hong Kong director Barry Yates said: ''Most corporations, notably property developers, are aware that they are about to be squeezed out of the [loan] market when the green light is given for the airport. ''The Provisional Airport Authority has not even tapped the debt market in any meaningful way yet, but when it does so it will crowd out others wanting to join the queue.'' But, as Julian Rimmer, an Asia-Pacific equities trader at Salomon Brothers, said: ''A number of property developers have shown themselves to be keen to raise capital at the present.'' From the issuers' stand point, if their credit rating warrants it, a convertible capital raising is probably preferable to loan or equity money-raising. Rights issues and placements do not go down well with investors. Placements are limited to 20 per cent of market capitalisation and rights issuers demand a long carry period, which in Asia's volatile markets can be nail-biting for those concerned. A convertible issue allows the issuer to raise money without the problems of equity raising at a lower interest rate than would be levied on syndicated debt. The yield offered on such issues is normally linked to a number of factors, including the yield of the stock. In the case of the Amoy Properties issue, a number of investors complained that the convertible issue yielded only one percentage point more than the stock, yet they were obliged to pay a 20 per cent premium. Some investors look at how long it takes the annual yield of the issue to pay off the premium. If the premium is covered by the first year's income, it is cheap. If they have to wait longer than three years, it might be regarded as expensive. The issuer also has to decide whether to go the convertible bond route or the convertible preference share route. Convertible preference shares can be irredeemable, depending on the terms. Convertible bonds will tend to have lower yields, but are in general redeemable, so the investor expects to get the initial capital back. Convertible preference shares will normally have a higher dividend stream associated with them. They can convert into shares, which can cause dilution. Different investors will have different ways of looking at these types of issues. There are at least three types of investor identified by many of the investment banks working in Hong Kong. There is the fixed-interest investor seeking out new sources of quality high-yielding product. These appear to be growing in number when it comes to Asian issues, according to investment bankers. They will tend to value these issues along bond valuation models. Some investors are interested in the equity content of the product. Convertibles can be regarded as options and thus option valuation models indicating theoretical values and implied volatility will be prevalent in this context. There are also hedge fund investors. They operate their portfolio management using convertible issues in the context where they can short the stock. This is not regulated in Hong Kong, although many investment banks make such a facility available to clients via London trading. The key message from investment bankers is that convertible bonds and preference shares are set to play a bigger role. They are here to stay - as long as mistakes like those made elsewhere in Asia are not repeated.
