Hong Kong bookbuilding crackdown: a step too far
The Hong Kong regulator’s plan to overhaul the bookbuilding and allocation process for equity and bond deals has some worthy goals. But it is unnecessary for a market that has proven able to clean its own house.
The Securities and Futures Commission, under chief executive Ashley Alder, unveiled a host of proposed changes to rules governing equity and bond deals last week. While the changes remain under consultation until early May, the regulator has made its ultimate intention clear — to improve market standards around bookbuilding, pricing, allocation and placement of bonds and stocks.
This is not a bad thing, of course. As a regulator, the SFC is justified in demanding better behaviour among market participants, whether by mandating that bookbuilding syndicates and fee arrangements be set at an early stage or by requiring at least one head of an IPO underwriting syndicate to also play the sponsor role to reduce unhealthy competition among bookrunners. Its desire to crack down on inflated order books on deals and rebates given to select investors is also laudable.
But these latest moves to tighten control on how deals are executed seem to be an overreach — and ignore the progress that has already been made in improving bookbuilding standards over the last few years. Some of this is the result of previous regulatory action by the SFC but things have also improved the old-fashioned way — through the market mechanism.
Hong Kong’s regulator has worked tirelessly to keep banks operating in capital markets in check since it brought in Thomas Atkinson as head of enforcement in 2017. In early 2019, as an example, the SFC fined Bank of America, Morgan Stanley, Standard Chartered and UBS for due diligence failures on IPOs in the city. UBS’s sponsor licence was also initially revoked for 12 months, but this sanction was lifted in 10 months, after the bank improved its practices.
Also in 2019, the SFC teamed up with Hong Kong’s anti-corruption watchdog for an investigation that led to the arrest of the former joint head of the HKEX IPO vetting team and two of his associates.
The financial regulator also set its sights on Chinese brokerage houses, which had gained a reputation for testing the limits of best market practices. For instance, China Merchants Securities was fined in mid-2019 for breaching the IPO code of conduct.
In the bond market there have been big improvements over the past few years. In 2019, bond syndicate teams in Asia started to reveal how much of their order books came from the lead managers on transactions, following a push by the International Capital Market Association. That move offered some much needed transparency for issuers and investors into how much syndicate teams propped up deals.
Senior DCM bankers also say that the use of ‘X-orders’ — which SFC raised as a concern, for causing book inflation from anonymous investors — is now quite limited among the big bond houses as even borrowers increasingly want to know the investor line-up on their deals.
Better bookbuilding can and should be a value-add to borrowers. Although it is understandable that the SFC wants to protect first-time borrowers and small high yield issuers, it makes sense to allow some flexibility in the way banks execute deals.
The SFC should tread carefully. It will want to avoid a repeat of a situation in 2017, when its plan to boost its involvement in listing approval decisions sparked a market backlash. The SFC had to drop those proposals in the end.
But the latest consultation has already divided markets. While some DCM bankers have called the plans a step in the right direction, others in ECM are pushing back on the changes as they consider them unnecessary and more a hindrance than help.
In the debt market, banks and borrowers could opt to list their bonds in Singapore instead of Hong Kong, if only to avoid the extra disclosure work required by the local bourse.
If the SFC’s plans go ahead, they could dramatically change the way some transactions are run in Asia. Perhaps that will help the regulator avoid a few embarrassing blow-ups — but the cost will be the freedom of banks to differentiate the services they offer their clients.
The free market solution is usually the best one. There’s no reason to think this is an exception.