CIBC Year-end Update and 2024 Outlook – Financing and Advisory

Roman Dubczak: Hello, everyone. I’m Roman Dubczak, Deputy Chair of CIBC Capital Markets. At CIBC we’re here to help you keep your ambitions on track by meeting your evolving needs. And I’m pleased to lead today’s Year End Update on Financing and Advisory, where we’ll hear from our experts Sean Gilbert and Andrew Lee, our Global Co-Heads of Debt Capital Markets, Mike Boyd, our Global Head of Mergers and Acquisitions, Tyler Swan, our Global Head of Equity Capital Markets, and Jacqueline Green, Head of Financial Markets in Global Corporate Banking. Our experts will recap their observations over the past 12 months and the key themes we’re seeing for the year ahead. So let’s get started. I hope you enjoy today’s session. Sean, perhaps we’ll start with you in Debt Capital Markets and then you’ll hand it over to Andrew, as to what you’re seeing on the DCM side?

Sean Gilbert: Sure, yeah. Thank you Roman. Maybe what I’ll do is, I’ll start off with a couple of trends and themes we saw in 2023 and give a brief kind of outlook as to what we think we know from 2024. So a couple of themes I’m going to touch on. Number one, we’ll talk about issuance volumes and sort of the composition of that. Maybe I’ll just talk a bit about the term structure of our market, which has seen a bit of a change. And then, a concept that I want to revisit that we brought up in video, I think about this time last year. An the issuance side in Canada, issuance was down this year… was down about 17% to just over 103 billion. But it was really a tale of two cities on that front. On the financial side, we saw materially lower bank issuance. Banks raised a lot of capital in 2022 and I think came into the year very well funded. And so, there was just a natural need for less funding. And in those years, they can be a little bit choosier as to where the best cost of capital is globally. And this year Canada didn’t rank-up as much as, high as they should have. So I think what we saw was more offshore issuance. So the double whammy of that brought bank issuance down to about half. On the corporate side, we actually saw some pretty good momentum last year, and 2022 was it was a low year. We came off of near zero rates and COVID and we saw, sort of, that downdraft. 2023, we saw an uptick. We saw about $60 billion, which is about 60% coming off of a low number. But if you look at pre-COVID levels, it actually ranks pretty, pretty well. And so one thing we saw there in particular has to do with the shape of the yield curve. And as rates rose throughout the curve, you also saw short-term benchmark rates rise. So, talking about CDOR, SOFR, BAs…to the point where short-term floating rate levels were actually higher than the term portion of the curve. And so I think what you saw was issuers refinancing shorter term, higher cost debt. What’s unusual with term debt. And so we did see that shift in the market, which I think drove up our stats. But on that same theme, the term component of our market actually shrunk. And I think if you look at how the issuance look by term, that five year and under component of our market was actually up materially. Was about 45% of total issuance and that was materially higher than last year. And I think that was a bit of a reaction to the difference in terms. Two observations I’ll make there, number one, I think issuers were just getting off of higher cost debt to lower cost debt, but part of that was the belief that rates may be lower in a couple of years. And so the shorter you go, the quicker you can to refinance. And the second component was, I don’t think they were making a call on the actual term structure of their debt. And so shorter term debt, if you want to do balance sheet management, is easier to repay because it comes due quicker. So those are the two points I would make there. On the investor side, there was a bit of a meeting of the minds because with the inverted yield curve, investors actually got paid to hold shorter term debt. So there was a bit of a meeting of the minds in that respect. And then the last point I’ll make is a concept we talked about is getting ready earlier with respect to turbulent markets. 2023 was no different. We had the regional bank troubles with SVB, First Republic and the likes, Credit Suisse, debt ceiling, global, geopolitical risks. From that perspective, picking a market window was really important. And if you look at the issuance profile of our market, our three busiest months, March, September and November, those were the three spikes. All were either during or preceded by a small dip in rates. And so the advice that we gave last year about getting ready early and being opportunistic, I think really benefited issuers. Looking forward, maybe I’ll make a comment on our expectations of supply on the financial side, it will revert to the mean. So I expect a higher financial issuance. Also the profile of the maturity of some of the capital securities that are coming due naturally are going to be refinanced in Canada. And on the corporate side, we have higher maturities, generally. Corporate maturities. We’ll have some increased CapEx. If we look at some IR decks, you’ll see those are some increased CapEx. And I think this trend of replacing shorter term, more expensive debt with lower cost, term debt will continue. Maybe I’ll turn to Andrew for some thoughts on the US market.

Andrew Lee: Thanks, Sean. So I’ll cover the IG market in the US first and then turn to the leveraged finance market. There were a few themes in the US: investor grade market, this past year as illustrated by this graph. We saw historically high interest rates. After the Fed hiked rates by 100-basis points in 2023 and by 500-basis points in total. The five, ten and 30 year Treasury yields reached their highest levels in 16 years, with the ten year peaking at 498 in October. We also saw widening credit spreads for part of the year, so the all in cost of borrowing continue to climb materially. And as Sean mentioned, there were a number of disruptive events for the markets, such as the regional banking crisis in March and the Israel-Hamas conflict more recently. So we had the makings for a pretty challenging year in the US debt capital markets. But I’d say the US investor grade market proved to be pretty resilient. The total IG primary issuance was 1.2 trillion, exceeding the $1 trillion mark for the 11th consecutive year. This is only slightly behind total issuance last year, which was $1.3 trillion. One important driver for that resilience was that although issuers were facing rapidly increasing rates for much of the year, borrowing costs for terming out debt remain relatively favourable for issuers compared to the cost of their bank revolvers, which increased due to higher SOFR rates, which you can see here on the right side of this graph. It does seem that we’ve turned the corner and are now looking ahead. Now that the market views the Fed rate hiking cycle at an end and the focus is now on the magnitude and timing of Fed rate cuts, we’re seeing that reaction by the market as the ten year Treasury now sits at 415, nearly 85-basis points tighter than high in October and 50-basis points over the past month. Also currently seeing the IG spread index and the year to date low tightening 60-basis points from its high in March and 20-basis points tighter in the past month. So in 2024, yields are expected to continue to decline in tandem with inflation in the Fed funds rate. Credit spreads are also forecast to grind tighter as credit ratings and respective metrics have generally been improving. For example, ratings upgrades have outpaced ratings downgrades by a very strong, 4:1 ratio this year. And then finally, total times for IG supply are forecast to be modestly higher next rate, even though the maturity wall for 2024 is relatively manageable at just under $800 billion. So some of this growth is dependent on a pickup in M&A related issuance. Just a few words on the US leverage finance market, which is comprised of both the term one being high yield bond markets. Both these markets have largely been constructive this year, open for most of the year, for both opportunistic and refinancing activity, albeit at elevated rates compared to the ten year averages. As you can see from this graph, even though we’ve seen higher volumes compared to last year, total issuance of terminal B’s and high yield this year were still well below the ten year average. This was a function of higher interest rates impacting M&A opportunities, but there are also fewer refinancing as as many issuers took advantage of the historically low interest rate environment in 2021 to execute those refinancings. We have seen some material improvement in pricing, though, across high yield and term one B spreads. For example, the single B spread index for both markets is over 100-basis points tighter as there’s been greater inflows into loan and bond funds in recent weeks, given the market’s more optimistic view of subinvestment grade credit risk. Some of the key trends that we saw this year in the Triple B market include an increase in both repricing and limited extent volumes as issuers look to reduce coupons and extend tenors. In fact, they extend loan volume of $70 billion this year with an all time record. And in the high yield market, there were trends that were very similar to the investor grade market, such as an increase in bond for loan take outs, given the relative cost advantage, and then issuers choosing to issue shorter tenors to reduce coupons. And then finally, another key trend has been the credit market continuing to cannibalize the broadly syndicated term loan B be and high yield markets as financial sponsors accessed private credit funds during periods of market volatility, despite private credit typically being more expensive, and more restrictive. Looking next year, slowing economic growth and easing monetary policy should happen is viewed as being broadly positive for corporate activity, and that should translate to higher issuance volumes in this market. With some projections showing increases of 20 to 30%, there is a sizable maturity wall of almost 25% of all exiting term loan B and high yield issues that needs to be refinanced over the next couple of years. So that will help drive issuance. But certainly there’s also an expectation of a pickup in M&A with a decline in rates that are built into these projections. And Jacqueline, I’ll hand it to you to talk about the bank market.

Jacquelien Green: Thanks, Andrew. So certainly in the bank market, it’s been a very interesting year. And Sean and Andrew actually touched on some of these themes. We’ve had Bank failures, we’ve had regulatory reform, and that’s still ongoing. It’s requiring banks to hold more capital. We’ve had elevated credit spreads, which means that for banks it’s now costing more to raise capital than it has historically. We have had geopolitical volatility, a slowing retail environment, and I could go on. So all these things taken into account, one would have expected a fairly grim bank market. In reality, it actually held up fairly well. Volumes were slower. They were down about 18% year-over-year as of Q3, but still well above the lows that we saw at the height of the COVID disruption in 2020. And the decline was due to a combination of a couple of things. It was primarily due to borrowers remaining on the sidelines to reduce execution risk in light of the headwinds that I talked about. We also saw lower M&A volumes. On the pricing front, when we were here at midyear, we had predicted that we were going to see an increase in pricing in certain segments of the market and that has come to fruition. Normal course investment grade financings have remained largely status quo, but other areas of the market that have high utilization. So thinking about project finance infrastructure, opportunistic term loans in lieu of accessing the bond market or M&A financing did in select cases see an increase in pricing. Other areas of the market where we have seen reduced liquidity, such as fund finance, with the exit of the US regional banks also saw an increase in pricing. And of course, the subinvestment grade market or the leveraged finance market that Andrew alluded to, does tend to track with the macro environment more closely. And we saw an increase in pricing there as well. All these things said there were some really bright spots in the market that I want to point out. And we actually saw one of the largest term loans ever raised in bank market history, $30 billion that was related to Broadcom’s acquisition of VMware, and that was done with more than 20 banks. We saw banks providing a significant amount of flexibility for companies. And one example of that would be interest coverage ratios, just given the rapid rise in interest rates. And lastly, we saw relationship banks stepping up in certain cases to backfill, for exiting lenders or in cases where companies needed more liquidity. So looking forward, what does this all mean for the next year? We expect continued selectivity by banks. We talked off the top about how banks are now required to hold more capital and at a higher cost than historically. And so it won’t come as a surprise to hear that banks are now reprioritizing their capital towards their strongest relationships. We also expect to see more differentiation in the market. And what I mean by that is, when market conditions are exceptionally strong, you can look at a certain rating category and everything will be priced and structured within a narrow range. When we start to see more volatility in the market, we start to see that widen out. And so, companies that have very strong relationships with their banks will be more successful at maintaining the existing terms that they have, whereas companies that don’t benefit from that same strength of relationships may see some of their terms change. And lastly, we do anticipate a flight to quality. This always happens when we see macro headwinds and we’re already starting to see tighter structures and lower leverage levels than we did at the peak back in 2021, as an example. All these things said, I think it’s very important to highlight what I’ve said before, which is that the bank market is a relationship based market, and as a result, even though when we tend to see fluctuations in the broader capital markets, we always see the bank market acting fairly constructively. And I’ll leave it there. And I’m going to turn over to Tyler to talk about equity capital markets.

Tyler Swan: Thanks, Jackie, and Andrew, I think, mentioned the turning of the corner in the bond market, and I think that’s very much what’s playing out in the equity market. The equity narrative is very much shifted over the last month or so that we are going to get that economic soft landing. Inflation’s in the low 3’s. We’ll see what we get with the US CPI print on Tuesday. We might even get a 3. And we’ve also seen a big pullback in oil price, about 27% since September, and we’re seeing signs of slowing labour markets as well. So while we could end up with a couple of quarters of soft economic growth, soft corporate earnings. By the middle of next year, we’re looking at rate cuts, if not earlier. And we’re also looking at a position where the corporate earnings growth will accelerate into the end of the year. So with that backdrop, we’re getting a great rally in markets. S&P has been up 11% since the end of October. And while we had for the last couple of years, very much leadership in the equity market concentrated in large caps and mostly a handful of large technology companies. Now the small midcaps and value stocks are participating in the rally. So the Russell 2000 is up 15% versus the S&P 11% since October low. So that makes for a very good backdrop for equity financing volumes. And we do think that we’re going to see an acceleration coming in the next year. Two areas of focus that we have is one, acquisition related financings. A lot of our clients are eyeing acquisitions and while private capital and private equity continues to grow in terms of assets with the rise in interest rates, they are in a bit of a softer spot competitively and the public companies are looking to take advantage. In competitive scenarios to maybe get some acquisitions done that they haven’t been able to get in the last number of years. The other areas, there’s a lot of IPO candidates that are out there. There’s a very big pipeline building, but we’ll have to see. That may end up being at various points throughout 2024 and the timing is a little less certain. So, very optimistic going into in the next year. Maybe I’ll turn it over to Mike.

Mike Boyd: Okay. Well, thank you, Tyler. Great to hear that you’re optimistic heading into next year.  Maybe I’ll start just by looking back at 2023. And I would say as it was for both the debt and the equity markets, 2023 was a more challenging year for M&A activity. Overall, global M&A is on pace to be down about 20% versus what was actually a more challenging 2022 as well. In 2022, M&A volumes were down about 40% versus the previous year, although that may not be really a fair comparison in that 2021 was the COVID peak year where we we reached M&A volume levels that were at a record and about 35% above anything we had seen before. You can see on this chart, which shows global M&A volumes by year on the left and Canadian M&A volumes on the right, how we went up in 2021. And in the last couple of years have been more of a reversion to the mean. And in fact, in this past year, probably a little bit below the mean. You can also see on this chart the Canadian M&A activity has been very consistent with the global trend. So over the past two years, I’d point to really two key drivers of the slower M&A activity. You know, I think the big theme here today has been rates and certainly the first main reason is the dramatic rise in interest rates we’ve seen over the past couple of years. That has made the cost of borrowing to finance acquisitions much more expensive. And it’s also reduced the demand and capacity in the leveraged loan and high yield markets, which is in particular impacted the ability to finance larger transactions. And that’s also had a significant impact on private equity activity as leveraged finance is a key source of financing on those types of transactions. The second key factor I’d point to is the economic uncertainty we’ve been experiencing over the past year. The consensus expectation was that the economy would slow and the big question was how much? Would we have a soft landing or a hard landing? And this uncertainty has definitely impacted M&A activity, as it is difficult for companies to pursue significant transactions without having, you know, a degree of confidence in the economic outlook going forward. Moving to the outlook for 2024, I think the good news is that the market consensus is that we should see some of these factors improve in the upcoming year. The market believes that the Fed and the Bank of Canada have stopped the rate increases and that we should move to rate cuts at some point during the upcoming year. And as long as the economy doesn’t slow too much, this should be positive for both equity and debt markets and positive for M&A as well. Lower rates and stronger debt financing market should in particular drive greater private equity activity on the buy side. And private equity should also be much more active on the sell side in an improved market, as private equity firms generally have been holding off selling assets over the past couple of years. Given the choppy market conditions. And finally, I expect we should see more activity in interest rate sensitive sectors like real estate and utilities, which were most impacted by rates over the last couple of years. So overall, I’m optimistic that we should see a better environment and a pickup in M&A activity in 2024.

Roman Dubczak: Right. Well, thanks, Mike. Very good summary from everyone on what they saw, where things are going. So I’m sensing some optimism and higher volumes. Let me throw out some questions here. And Sean, perhaps I’ll start with you. So, in the realm of Canadian DCM, Debt Capital Markets, public markets, what do you perceive to be some potential wildcards in the issuance calendar?

Sean Gilbert: Sure. Maybe I’ll start… I’ll give one downside wild card, one upside wildcard, one that that kind of tempers that. On the downside, we talked about a higher maturity stack for next year but in the corporate maturities a disproportionate amount of those are from foreign issuers, we call the maple issuers, and that, those are issuers that don’t necessarily have needs for Canadian dollars, but they look to the Canadian market to provide diversification and just help with global pricing. But for that to work, the Canadian market has to be competitive on a global cost of funds relative value basis. So 2017, the market was really in favour and that seven year part of the curve was very favourable to global levels. Fast forward to 2014 and it’s those maturities that are coming up. So the maturity refinancings that we talked about, about ten or eleven billion of those will be dependent on how our market stacks up globally to other options that those issuers have. So if we’re not as competitive, that could actually be a bit of a downdraft on the refinancings. On the upside, and I don’t I mean, I think we all talked about M&A and I don’t mean to pick on Mike or put any pressure on him but, we have definitely seen that M&A funding in our market, although not nearly as big as the US market, has damaged – the Canadian markets demonstrated that we are a deep and reliable source of M&A funding. We had about $6 billion of M&A funding this year. It’s a decent amount, but we have seen billion dollar plus deals. So for domestic M&A deals where debt financing is required, if we can see an increase in that activity, I’m very bullish that we’ll be able to absorb that in our market. And then what could push things either way? I think as we talked about, is the economy. And I do think we all feel good about potentially some of the things that are ahead, from a rates perspective. I think the economic mood will toggle some of those issuances on the CapEx side. So there’s a bare minimum of maintenance CapEx. I think we’ll be funding our market, but the economic outlook and company sentiment could either have more growth CapEx or less growth CapEx. And I think that’s something we’re going to want to monitor going forward.

Sean Gilbert; Okay. Thanks, Sean. Andrew, the other prevalent theme over the course of the last couple of years and continues to grow is the impact of private credit in private equity being a key driver in the past decade or so, private credit in ascendance, you know, how do you perceive the impact of private credit on the traditional leveraged finance markets in the US?

Andrew Lee: So in ‘24, I think we certainly expect the private credit markets to continue to grow. That market is is estimated to be over $1 trillion, and that number is estimated to double just over the next few years. But with rate cuts and a soft landing for the economy expected in 2024, we should see less volatile debt markets. So as a result, the broadly syndicated term loan b in high yield markets, should have more capacity, should be able to price better and therefore should be more competitive relative to the private credit market.

Roman Dubczak: Thanks Andrew. Jacqueline, same question to some extent, the impact of new participants in the credit markets on the private credit side impact that they’re having on the bank markets.

Jacqueline Green: Thanks, Roman. I think, as Andrew said, you know, it’s an interesting market and that there’s been a huge influx of liquidity. It’s very much top of mind of everyone. And I would say that for traditional bank lenders, it actually does not provide that much competition. And I would actually reposition it to say that it fills an important hole in the markets. Generally speaking, private debt lenders have fewer regulatory constraints, and that allows them to provide longer tenors, higher leverage, and in some cases, looser structures. And they also don’t require external ratings, which is required to access the broadly syndicated term loan B and high yield market. That said, it comes at a higher cost. And so, that’s one of the trade offs that exists in that market. One thing that’s worth mentioning with respect to the private debt markets is they have gone upmarket in recent years. And so that does start to intersect with the broadly syndicated markets. And part of the reason for that is just that the whole appeal of the private debt market to investors is the higher yield. And so irrespective of the macro environment, it is an area that we expect to continue to have a lot of demand and a lot of supply. That being said, with some of the macro headwinds that we’ve already covered today, we have seen pricing increase further and we have seen structures tighten a little bit. So all to say not really a competitive headwind for the traditional bank market, but certainly something to be wary of as it relates to the broadly syndicated term loan B in a high yield market.

Roman Dubczak: Yeah, yeah, I’ve heard the phrase ‘frenemies’ use that quite often in the…

Jacqueline Green: Well put.

Roman Dubczak: Year end summaries as it relates to private credit and the financing markets. Just one last question, Jacqueline, on you mentioned liquidity in the bank market. How do you think that shapes up in the coming year? And the impact it will have on our clients?

Jacqueline Green: Thank you for that. I think that in the market that we are in, where there are headwinds, it’s very important to engage your banks early in terms of maximizing your liquidity. And I would say especially so where you have a specific use of proceeds, whether it’s M&A or something else. The other thing that’s important for our clients to think about is what are their financing priorities? Is it tenor? Is it size? Is it cost? Is it flexibility? Those are important to identify because it may be the case that you can’t achieve all of them at the same time. And it’s important to devise a strategy that will get you best execution in terms of what your priorities are. The other thing I would mention is that there is a differentiation in the market now between what we call ‘new money’. So incremental funds that need to be raised, and ‘existing money’. And the reason goes back to what I mentioned at the very start, which is that banks are having to hold more capital and at a higher cost. And so their hurdle rates for newer money might look different than they do for existing money. And so the point there, is just to be prepared that if you’re raising incremental funds, they may have different terms than the financing that you have today. The last piece of advice that we would provide is it’s really important to have flexibility in your financing strategy. Flexibility can look a couple of different ways. One, it can be going to market to raise more funds than you actually need. We call that an ‘over invite strategy’ and that builds some redundancy into your raise. To the extent that you have any declines or to the extent that banks cannot provide the financing on the terms that you want. Flexibility can also look like accessing different markets. And as Sean mentioned, we have seen a number of companies successfully access the bond markets as a way to free up liquidity or because there’s a pricing advantage relative to the traditional bank market. So it’s important to look at diversifying your source of funds and making sure that you have that flexibility built in.

Roman Dubczak: Great. Thanks, Jacqueline. Tyler, seems like the game is coming your way this year, let’s hope. In terms of equity issuance, you mentioned IPOs in your comments earlier. What’s your view on the IPO window and timing?

Tyler Swan: So as noted, there’s a very large pipeline of IPOs, but the timing is a little uncertain. The equity markets are rallying, but that rally is an anticipation of a rebound in economic growth, corporate earnings, and that anticipation is enough to unlock some follow on financing, existing sellers of stock. But it’s not necessarily enough to unlock IPOs, because for an IPO, very important milestone for the company, very fundamental in their long-term trajectory. And they mostly want to see a very stable economic backdrop and a runway for their own business. And they want to see that clarity before going public so that they know, post-going public that they’re going to perform in the market. And so, for each company that’s different when they see and unlock that moment where they think that they’ve got ‘the coast is clear’, so to speak. But we do think that that will start to fade in. There were IPOs this year, very modest number of IPOs. But we do think that as the uncertainty fades, that will unlock a lot of the IPO volume. And so it’s a matter of the timing and 2024 and heading into 2025. The other point I’d mention is, of course, we have a US election next year and whenever there’s a very visible, potentially market moving event in a calendar, for an IPO, companies will navigate around that timing. And so, in the lead in depending on how much anticipation that, that election might be market moving, we would expect a bit of a pause leading into that election and then a pick up after the election once the results are known.

Roman Dubczak: Good points Tyler, you know, look at that optimism. But the blooming election influences M&A markets as well. And Mike, you know, it’s a good circle and off with you perhaps on M&A volumes. There’s the scenario that’s quite possible, the ‘higher for a longer’ rate scenario. And how does that how does that impact the behaviour of our private equity sponsors in terms of the M&A calendar that we’re looking at?

Mike Boyd: Yeah, you know, clearly we’ve seen a big you know, a big impact of rates on private equity activity over the last couple of years. I do think as long as rates stay reasonable and by that I mean around where they are today or hopefully a little a little less, I think the private equity market will adjust and continue to grow over the long-term. So I think it’ll be, you know, kind of just an adjustment back to a new normal and, you know, I’d also say that private equity has evolved over the years and, you know, strategies have become much more specialized and differentiated and many funds are less dependent on leverage than they would have been, say, even ten years ago. You know, there are lots of funds out there, growth funds, as an example, for which leverage is a much less important factor in driving, you know, their returns and their investment decisions. Having said that, higher rates will generally impact private equity’s ability to compete versus strategics and auctions. But I don’t think this will be a dramatic shift. I think it’s more of a shift probably back to the way things were before we entered the ultra low interest rate environment associated with COVID. So I think what you’ll see is probably a more balanced,

you know, competitive playing field where private equity can certainly compete, but they’re not going to have the same advantage they had back when rates were extremely low.

Roman Dubczak: Yeah. Thanks, Mike. Yeah, so, to recap, I think unique market conditions with the sense of optimism and some different variables than we’ve seen in the past, the participation of strategic investors, their need to access equity markets and debt markets, and then the potential reemergence of volumes from private equity sponsors as market conditions improve and they can start to offload some of their investments. So seemingly a very busy year, or period of time ahead of us, different from the past, but nonetheless an opportunity for our clients to access markets and, you know, fulfill their ambitions as it relates to M&A and other transactions. So I want to thank all of you for a great summary for the year end. It looks like, like I said, we’re going to be quite busy and hoping everyone has a happy holiday season as we close off the year. Look forward to seeing you all next year. Thanks for joining us today.