It is just over a year since Chase Manhattan and JP Morgan merged, and over two years since the creation of Citigroup. The two banks now bestride the region’s debt capital markets and dominate the mergers and acquisitions advisory business. Citigroup and JP Morgan are beginning to resemble financial factories that churn out deals of every size and type at dizzying speeds. Last year they handled more than 100 capital market transactions between them, worth a total of $133.15 billion.
Citigroup’s grip over the debt markets is impressive. It has a commanding lead in the new and rapidly growing liability management business, dominates lending and is an important name in sovereign finance. Accordingly, LatinFinance has picked Citigroup as this year’s top debt firm covering Latin America. No other investment bank, with the exception of JP Morgan, can claim to rival its reach. The merged JP Morgan has assembled the most formidable M&A team on Wall Street covering Latin America and takes this year’s LatinFinance award for best M&A house.
Brian O’Neill, Latin America chairman at JP Morgan, argues that M&A is the bank’s core activity in investment banking. “A big part of the business is strategic, to provide our clients with strategic advice. It is that kind of strategic dialog with CEOs and owners that drives the debt financing, the risk management and derivatives business. M&A is the quintessence of our strategy and whilst we are a big debt house, we like our clients to view us as an M&A house above all.”
JP Morgan worked on some of the most complex corporate finance deals in the region last year, such as two highly convoluted transactions in Brazil. These were the sale of Copene, a petrochemicals plant, to two Brazilian groups and the unwinding of cross-shareholdings between Companhia Siderúrgica Nacional and Companhia Vale do Rio Doce. It handled a diabolically complicated $1 billion divestment by TransCanada Pipelines of its Latin American business, an operation that involved the sale of 11 companies in six countries to eight buyers.
While it is true that JP Morgan did not play a role in the largest M&A transaction of the year – the sale in May of Banamex to Citigroup for $12.82 billion – its performance was still impressive. The team of Nicolás ‘Gucho’ Aguzín, the thirty-something head of M&A at JP Morgan, closed 44 deals in 2001 according to Dealogic, an M&A database company. This was exactly the same as Citigroup and Goldman Sachs combined, which placed first and second in the 2001 M&A league table respectively. If one strips out from the league tables the gigantic Banamex deal handled by Goldman and Citigroup, JP Morgan emerges at the top with deals totaling $10.17 billion. Its rivals together only just exceed this volume.
The bank’s spread across all the investment and commercial banking activities has led to cross-fertilization between the various disciplines. Says O’Neill, “There was a transfer of skills from sovereign debt exchanges to doing it for corporates in liability management assignments. In the private sector, where you are talking to companies about their capital structure and strategic opportunities, this adds value [when] you come up with a series of recommendations.”
Citigroup’s strength in the debt markets is clear. Purists will point out that lending scarcely qualifies as an investment banking activity. However, it is becoming harder to design many corporate finance structures without a debt feature and it is becoming increasingly common for debt in all its manifestations to come from the same firm that is providing advisory work on a deal. Carlos Guimarães, Salomon’s chairman for Latin America, says, “Financial products are becoming connected.” He says an M&A transaction will typically include a bridging loan perhaps with a hedge thrown in, which is subsequently taken out by a longer term loan or a bond.
So it is becoming harder to see where investment banking ends and commercial banking starts at JP Morgan and Citigroup. Integrated houses have the advantage of being able to spread their considerable costs across a broader base. This means that in a bad year for a certain product, such as equities in 2001, the rest of the firm can take up the slack. According to Guimarães, “I can make up in liability management, with the debt exchanges, and in M&A volumes what I could not earn in equity. When you are present in all of them, you can subsidize top-quality effort in areas that are not having such a good year.”
Although Citigroup faltered in the Latin American bond league tables in 2001, dropping to seventh position from second in 2000 , with $1.46 billion-worth of deals it remains unchallenged in other fixed income businesses such as liability management, local capital markets and loans. Taking its activity in the bond market, in lending and in liability management together,Ctiigroup handled deals worth $17.72 billion for Latin American borrowers last year, a third more than JP Morgan, its closest competitor.
Liability management has become one of the hottest new products in sovereign finance, as governments try to improve their debt profiles. Citigroup, together with Credit Suisse First Boston, led Brazil’s clever $2.15 billion par-for-par Brady swap, which took LatinFinance’s debt exchange prize for 2001. Citigroup booked $9.27 billion-worth of exchanges in 2001, taking 23% of the market, according to Dealogic.
Citigroup dominates the increasingly important domestic debt capital markets in Latin America. Thomson Financial, the consultancy, ranked it as top bookrunner for domestic debt issues in Latin America in 2001, raising $9.54 billion locally for issuers in the region last year, giving it a 25% share of the market, well ahead of second-placed Banc of America Securities, which booked roughly half the volume of transactions. JP Morgan came in third with $4.75 billion or 12% of the market.
This leadership matters because economic stability in Brazil, Chile and Mexico is making local currency capital-raising possible especially at a time when access to the international markets is so unpredictable. Companies can dispense with currency and refinancing risk by borrowing at home, often at costs that are close to those on the international markets. Thomson says companies last year raised $21.31 billion in Latin America through straight debt issues, 38% more than in 2000.
The sheer size of Citigroup and JP Morgan, their global presence and the resources they can marshal make them formidable competitors for the traditional Wall Street houses. The division between the elite investment banks such as Goldman Sachs that make money by advising clients and underwriting securities, and the commercial banks that make money through lending has broken down. Corporate clients expect banks to provide capital market operations, advice and lending as part of a single package.
This does not mean that the likes of Goldman or Morgan Stanley are rolling over. They remain a formidable presence in the sovereign bond market because they have well-established distribution channels, trading capability, research and execution skills. Sovereigns are keen to share out bond mandates among the top-ranked investment banks as much as possible to prevent any concentration in the market that would drive fees up and perhaps more important, affect the execution and secondary market support of their bonds. Brazil, the most active sovereign issuer, explicitly rotates mandates among the banks and rarely awards a bond to a single firm.
These banks’ buy-side clients have become uneasy as industry consolidation has narrowed drastically the number of outlets selling them securities or providing them with research. While Wall Street has become profoundly cynical about the objectivity of the research investment banks provide, most buy-side analysts and fund managers are confident of their ability to understand the markets in which they operate. Jim Barrineau, of Alliance Capital Management, says he is not concerned about a JP Morgan-Citigroup takeover of the market. “There will be niches for other [banks] and you’ll always want to hear a multiplicity of voices in research,” he says.
Consolidation has not prevented a slide in investment banking fees. Bond issues are becoming prestigious loss leaders that enable banks to pick up more lucrative business elsewhere. Rankings have become a crucial factor in winning mandates from governments and private-sector issuers so banks are anxious to win deals that confer league table recognition. This helps explain why Citigroup and Credit Suisse First Boston earned total fees of 45 basis points last April for a ¤500 million Brazilian sovereign bond. Citigroup and Goldman Sachs won a gross fee of 87.5 basis points in August when it placed a $1.5 billion, 30-year Mexican bond.
The European banks – principally CSFB, Deutsche Bank and UBS – are growing in stature in the region. These houses were once considered to have little future in Latin America because they have inadequate distribution capabilities in the US, the main consumer of Latin American securities. However their acquisitions on Wall Street have strengthened their distribution network in the dollar market. UBS bought Donaldson Lufkin&Jenrette and UBS bought Paine Webber. Deutsche Bank, through its earlier acquisition of Bankers Trust and Alex. Brown, is further advanced.
These firms can now claim to be dual currency houses, able to handle issues in euros and dollars. Clearly, though, their forte remains the European markets. Although UBS is often seen as the weakest of the trio, it has made its mark in the corporate debt market. It placed $1.55 billion in corporate bonds last year, more than any other bank. It developed political insurance for bonds, an important new tool for the region’s issuers in volatile times. Although Deutsche and CSFB have built a creditable name for themselves in Brazil they are still not getting as many mandates as their American rivals. This of course may change if rumors are confirmed and Deutsche swallows up Merrill Lynch. Were that ever to happen, JP Morgan and Citigroup will have to start watching their backs.