Equity issuance, trading slow in Q3

There is new evidence that the long-anticipated economic slowdown has already had an impact on the Canadian markets. The summer months of 2006 were marked by a dramatic slowdown, as both financings and trading volumes fell, according to the latest report from the Investment Industry Association of Canada.

New financings totalled just $9.1 billion between July and September, a drop of 25.6% in value from the second quarter and an even larger 28.6% drop on a year-over-year basis.

Falling oil prices were partly to blame for dampening the mood of the market, and mixed economic data did little to cheer participants either. Trading volume on the TSX tumbled 16.9% in the third quarter to just 17.2 billion shares. On a year-to-date basis, however, trading volumes remain strong, up 7.2% from 2005.

“The summer lull may not be just a seasonal phenomenon,” the IIAC report cautions. “Although issuance remains at historically high levels, total equity issuance in the first nine months of this year was $33.5 billion, down 7.3% from last year’s record pace.

“After posting three consecutive years in record equity financings, a record four-peat in 2006 is looking less likely to be in the cards. Is the financing party over?”

The pace of equity financings has been slowing since 2005, with the IIAC identifying that year as a peak in the trend. Last year, income trusts dominated the list of new offerings, but these had trailed off in the first three quarters of 2006.

Even before Finance Minister Jim Flaherty’s Halloween surprise, trust issuance was down 37.3% on a year-over-year basis. With high debt levels a key element of these structures, higher interest rates were already making them less attractive on the cost side. Softer commodity prices were squeezing margins from the revenue side as well. Finally, the tax advantages they offered were reduced by the spring budget, which reduced corporate dividend tax rates.

In the third quarter, trust financings fell 10.2% from Q2, or 52.3% year over year, to just $2.8 billion. Year-to-date trust issuance is off 42.1% from 2005, at $9.9 billion. With Flaherty’s decision to tax distributions, many suspect that we have seen the end of trust issuance altogether. With nothing in the pipeline, the trust universe is expected to start contracting dramatically.

“The new playing field is expected to herald a wave of takeover activity as trusts become prime acquisition targets — especially from cash-laden private equity firms and foreign players,” the IIAC report says. “If the takeover flurry — particularly in the oil and gas trusts — unfolds, it should spell another robust M&A market in 2007.

“The door is closing on income trust prospects other than real estate investment trusts, but investment opportunities are knocking at other doors.”

But if times were tough for trusts in Q3, common equity financings were even worse, totalling just $4.5 billion, down 42.2% quarter over quarter and 16.5% year over year. Part of the blame for the slowdown lies with the sheer volume of issuance in the past few years, which left few companies waiting in the wings to come to market.

On a year-to-date basis, common equity offerings remain strong, up 34.0% over the same period in 2005 to $18.5 billion. That increase masks a shift in the type of financing, though, with IPOs declining 24.4% in value despite a 35.6% increase in volume. On the rise are the values of private placements (up 15%) and secondary offerings (up 137%).

Filed by Steven Lamb, Advisor.ca, steven.lamb@advisor.rogers.com