New York – A recent article from the Federal Reserve Bank of New York (Current Issues Volume 13, Number 6) discusses the fact that U.S. capital markets are losing market share to international markets. There have been many who have indicated that there has been a loss of business to overseas market, not only in the primary equity markets but also in the secondary equity and fixed income markets.
Primary Equity Markets
The culprit for the decline in primary equity issuance in the U.S. market is generally thought to be the onerous Sarbanes Oxley legislation of 2002, armed with rule 404. The facts, provided by the Securities Data Corporation, confirm these concerns. In 2000, the global IPO market was dominated by the U. S., with $70 billion in IPOs in the U.S. compared to $20 billion combined in London and Hong Kong. By 2006, Hong Kong and London were nearly equal to the $52 billion of IPOs in the U.S. market. This represents a total percent reduction of 25% for the U.S. IPO market over that period, or an attrition of about 5% per annum. At the same time the overseas markets increased by about 160%.
In total, the global IPO market has increased 15% over the 6 year period. Of course, the U.S. market has suffered through a major rout in IPOs as a result of market conditions, so there is some uncertainty as to whether and to what extent the market might snap back. But this has likely been exacerbated by the current credit crunch, which is keeping investors sidelined.
A key trend globally is the observation that companies are tending to issue in their home markets. Among other things, this may be reflective of the growing trend towards globalization among the exchanges. In April 2007, the NYSE acquired Euronext and in May 2007, the NASDAQ and the OMX Nordic Exchange agreed to merge. As such, foreign companies may be more comfortable launching in their home markets, with the expectation that the exchange mergers will enhance access to the U.S. and other global capital markets.
Secondary Equity Market
Intuition indicates that a vibrant primary market begets a vibrant secondary market—and of course visa-versa. One concern is that a decline in trade flow owing to overseas trends, alongside thinner trading commissions, will hamper the ability and willingness of brokers to compensate third party research providers.
In addition, the imminent ending of the Global Research Settlement will be a hit for the research providers participating in the settlement.
Corporate Bond Markets
The corporate bond markets are an area were internationalization has been prevalent through time. Since the 1970s introduction for the Eurobond market, there has been a viable alternative to the U.S. market. In 1995, the U.S. bond market totaled $564 billion and the Eurobond market was about half that size.
The U.S. market share eroded from 1995 to 2006, however, with the share of U.S. firms funding in the U.S. market falling from 92% in 1995 to 82% in 2006. As well, the percentage of foreign borrowers in the U.S. market fell from over 20% in 2000 to about 9% in 2006.
One of the key drivers of this movement is that Eurobond underwriting fees have recently become competitive with U.S. underwriting fees. Both markets now feature underwriting fees in the area of 50 basis points for A-rated bonds, while in 1996, Eurobond fees were as much as 2 times those of U.S. fees at around 100 basis points.
The outlook for the disaffection with U.S. markets has several moving parts, including: 1) a general trend towards raising capital in home markets, 2) more onerous accounting standards and associated costs in the U.S. markets—especially with regard to equity issuance, and 3) more competitive underwriting spreads and fees in overseas markets.
Discussion of rolling back the Sarbanes Oxley accounting requirements—especially rule 404—is gaining significant traction and could remove a major stumbling block to a more active primary equity market in the U.S. However, it is not clear that the business will necessarily be won back, or whether the loss of market share will remain in tact. The prospect of greater international competition among markets is more likely a sign that investment banking fees and profits enjoyed in the 80s and 90s may need to rolled-back as well, as the bulge bracket firms face more competition in foreign and domestic markets in general and in the primary equity markets in particular.
Finally, with the exchanges becoming more global, there may be a continuation of the trend towards launching in the home market alongside having access to global capital in coming years.