Chinese issuers are still giving some investors advance notice of their offerings of offshore bonds, even as European rules clamp down on the practice to contain the risk of insider trading. Debt bankers have cried foul over the handling of lead orders on recent Chinese bond sales, voicing concerns that the practice breaches disclosure requirements and presents a distorted picture of actual demand for a deal.
Some Chinese borrowers routinely ask underwriters to secure indications of interest before announcing the terms of an international bond issue, using a tactic commonly used in the onshore debt market. Arrangers say the practice puts them under pressure to bend international rules, potentially exposing them to legal risks as global regulators tighten their scrutiny of capital-raising standards.
Most international regulators allow market sounding under certain conditions, but interpretations of those requirements vary markedly. In some cases, investors must agree not to trade in related securities once they receive inside information about a new issue - a practice known as wall-crossing.
"Chinese underwriters take a more liberal view about whether they need to wall-cross," said a syndicate banker at a Western bank. "They'll go under the guise that they are not officially mandated, that they are just pitching the deal, but they know that they are either mandated or that a deal is coming."
The debate over best practices has intensified since the European Union expanded its Market Abuse Regulation (MAR) in July. Among the changes introduced is a formal process for market sounding that requires banks to keep a record of interactions for five years, designed to ensure investors do not misuse sensitive information that could affect the prices of existing securities.
While those rules apply only to securities listed in the EU, Western investment bankers say they have revamped the way they market deals globally, putting them at a disadvantage against Chinese rivals in soft-sounding investors. Some bookrunners, especially smaller Chinese firms trying to win market share in international bond markets, often tell the issuer they have a proprietary order so as to win bond mandates.
One Chinese banker who invests in US dollar bonds said that he was often approached on messaging apps rather than through any formal channel. "I'm usually asked to sign non-disclosure agreements, but I've had instances where, if it's a well-known issuer and I am close to the banker, he will send me information like tenor, size and comparables on WeChat as long as I keep it confidential," said the banker.
"NDAs take at least two to three days to process, and it involves the legal counsel on each side." The International Capital Market Association (ICMA), an industry group seeking to promote good market practices, says in its Primary Market Handbook that managers need to discuss what information can be disclosed prior to pre-sounding. An ICMA spokesman said these rules might come under review to align them more closely with the EU's MAR standards.
Those rules, however, are voluntary, and do not apply to everyone. Bank of China is the only Chinese underwriter among ICMA's membership, according to the association's website. "It's about following global standards ... and those are there to protect the integrity of the market and investors as much as the issuers," said another DCM banker. "Not everyone is playing by the same rules."
The Hong Kong Securities and Futures Commission (SFC), which regulates all securities listed in the city, declined to comment on whether or not market sounding ahead of a bond issue breached any rules. The SFC's code of conduct does not contain specific rules regarding market sounding, but stipulates that corporate finance advisers should maintain "a high standard of integrity and fair dealing" and requires registered persons to "act honestly, fairly, and in the best interests of (their) clients and the integrity of the market".
While Chinese borrowers want to be sure there is demand for their securities before they launch a deal, bankers argue that sounding the market too early may not be in their best interests as it complicates execution. Typically, banks keep lead orders anonymous in an effort to protect their exclusive relationships or prevent competing bookrunners from taking credit for their work. Rather than sharing the details with the rest of the syndicate in a pot deal, orders are simply entered as "Account X".
Those exclusive orders are only validated and confirmed close to final pricing, raising the risks that actual demand may be far less than initially expected - especially as more than one arranger may be claiming the same "exclusive" order. One syndicate banker said this made it impossible to predict final allocations, noting that he had worked on deals where more than half the orders were X orders.
"Pot deals typically work to the issuer's best interest," he said. "Everyone shares information, there's double and triple-checking of orders and limits, and it contributes to a smooth process." These concerns came to a head recently when China Cinda Asset Management was said to have mandated bookrunners based on their ability to bring in early orders for a Hong Kong-listed Additional Tier 1 offering.
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