MARKET TALK: Q3 2023 OUTLOOK
Equity issuance is poised for a rally after a long dry spell, led by Brazil and Mexico. But first developed markets must stabilize, and that will depend on a decline in inflation and interest rates.
After a sluggish start this year, primary equity issuance in Latin America is poised to grow once a decline in interest rates and a rebound in economic activity bring stability to developed markets, analysts and executives say.
“We see the level of activity picking up,” says Marcelo Millen, head of Latin American equity capital markets at Citi in São Paulo.
Brazil and Mexico, the two biggest economies in Latin America, likely will rally first, where companies need equity finance to grow and improve their overall finances. In the rest of the region, activity will take longer to come back as investors cherry-pick the best opportunities, analysts say.
When the recovery could start is still uncertain.
“There is so much uncertainty worldwide,” says Íñigo Gaytán de Ayala, global head of equity capital markets at Santander CIB in Spain. “Unfortunately, Latin America is not a regional issue. It’s a global issue. Once we solve the puzzle in the more important regions, i.e., the US and Europe, then the emerging markets which follow closely.”
Initial public offerings have been gaining in volume this year. While only four IPOs were completed through June 15, they fetched nearly $1 billion, up from $493 million on four deals in the year-earlier period, according to data from Refinitiv. This activity, however, was down from 31 deals for $8 billion in the same period of 2021.
Follow-on deals have lagged in volume, however. The 17 deals in this latest period fetched $5.4 billion, down from 18 deals for $10.3 billion a year earlier, the data show.
The still sluggish activity is a sign of how the rise in global instability, inflation and interest rates over the past year and a half has led many companies to put deals on ice.
“In emerging markets, you IPO when you can, not when you want,” says Gaytán de Ayala. “We are in a buyer’s market.”
"In emerging markets, you IPO when you can, not when you want.”
– Íñigo Gaytán de Ayala, Santander
While the tightening of global financial conditions has slashed market valuations to discourage IPOs, expectations of better times are prompting issuers to prepare deals for when interest rates begin to fall.
“I think we're closer to the end of this mourning phase,” Gaytán de Ayala says.
Facundo Vázquez, head of Latin America equity capital markets at Goldman Sachs in New York, says that once the first rate cut is made by the US Federal Reserve, “the equity markets are going to accelerate.”
Latin America could benefit more than other emerging markets. The region is far from the geopolitical tensions in other developing countries like China, India and Russia, making them more appealing for investors. At the same time, domestic and international investors are largely underweighted in Latin America, and this will lend to the rally once it starts, analysts say.
Vázquez is optimistic about a rise in deals in Brazil, where an expected decline in local interest rates from 13.75% would push investment from fixed income assets to the equity market.
“We are increasingly bullish for the second half of the year and into 2024,” led by transactions in energy, food and other commodities, he says.
“There is not a lot of supply of public companies in these specific sectors that you can go and buy in the market,” Vázquez says. “We expect companies in the energy sector, in the commodity sector, in the agricultural sector to try to IPO in the next 12 months.”
Energy and water utilities are preparing deals, too. These companies will likely attract investors for their predictable cash flows and high-yield dividends as interest rates come down, much like names in the consumer discretionary, infrastructure and real estate sectors, he adds.
In May, Brazilian state power utility Copel hired five investment banks to prepare a share sale.
Citi’s Millen says the key for any new issues in Brazil is for company valuations to improve, helped by a decline in interest rates.
“The aspirational valuation that companies would like to price at is still very far from what the markets are willing to pay,” he says.
Follow-on offers will be across sectors, as companies seek funds for M&A or to bring down the financial leverage on their balance sheets, Millen adds.
Mexican real-estate investment trusts could be among the first to go to the market, building on investor interest in a nearshoring boom as companies shift operations there from Asia to supply the United States.
Mexican private education REIT Fibra Educa plans to do a follow-on with international investors, says CEO Raúl Martínez.
“We have had indications that, especially at the international level, there may be an appetite for a follow-on,” he says.
In May, Fibra Prologis, the Mexican division of the US REIT Prologis, raised $350 million in the Mexican equity market, the first deal to reopen the market after many months.
“If one moves, then the expectation is that the others are going to follow,” Goldman Sach’s Vázquez says. LF