Samurai Mike?
Japan seeks advice from -- who else? -- Michael Milken on setting up a junk-bond market
By NEIL A. MARTIN
Barron's
December 16th, 2002
Back in the 'eighties, American companies eagerly adopted Japanese management techniques as the new paradigm. Now, Japan may be about to adopt a prominent feature of that decade from the U.S. -- junk bonds -- with the help of none other than Michael Milken.
Milken, of course, was the father of the modern junk-bond market. As head of the high-yield department at Drexel Burnham Lambert, he oversaw the market's boom in the 1980s but later went to prison in 1991 for violating securities laws. Drexel declared bankruptcy in 1990 when it was unable to pay $2 billion in liabilities, including a $650 million government fine, when the junk market collapsed.
A small but growing number of Japanese government and private financial officials, securities executives and academics are calling for the establishment of a junk-bond market in Japan, hoping it will help invigorate their nation's moribund economy, much as junk bonds did in the U.S. two decades ago.
"We have a quite large universe of low-level corporate bonds that are floundering at the bottom of the bond market with nowhere to go because we don't have a market mechanism to trade them," says Yoshio Shima, head of the credit-research division at Deutsche Securities in Tokyo. "As a result, more and more people are feeling the necessity to move the idea of a junk-bond market forward."
Shima believes that one in four corporate bonds are speculative grade because their ratings have dropped below triple-B -- a total of between ¥10 trillion and ¥15 trillion ($75 billion and $125 billion).
Table: Ripe for Junk Bonds
Barron's has learned that a group of executives who run a small investment-management company in Tokyo with a window on Wall Street has informally approached Milken, asking for his advice and support in pioneering a market to pump desperately needed capital into companies with low credit ratings.
"In Japan's depressed business environment, it is increasingly hard for companies to get money from banks, which are struggling with their own bad-loan problems," says Minoru Yoshida, president of Axes (Japan) Securities Co. "Japan needs a viable alternative to bank financing, and who better to educate us about junk bonds than Michael Milken?"
"Japan desperately needs a high-yield-bond market, and the timing for such a market seems good," adds Glenn Yago, author of "Junk Bonds: How High-Yield Securities Restructured Corporate America" and director of capital studies for the eponymous Milken Institute. "The parallels of illiquidity and stagnation related to the onset of the U.S. high-yield market are striking."
Milken, who until this year hadn't visited Japan in 16 years, raised the issue of a junk-bond market in October at a Tokyo seminar for Axes. "There is a tremendous opportunity in Japan to increase substantially the rate of return on investment, both for financial institutions and individuals," he said. "One way to do this is through the creation of a high-yield-bond market."
In previous meetings with Axes executives, Yoshida says, Milken has expressed "great enthusiasm and support" for the firm's idea of pioneering a junk-bond market in Japan. He says Axes hopes to organize a consortium of domestic and foreign investors to help finance the start-up of a high-yield-bond market that would include public institutions like the Japan Development Bank, which is currently considering buying junk bonds, and Japan's state-run loan collector, the Resolution and Collection Corp., which currently purchases dud loans from banks and collects repayment or collateral. Insurance companies, asset managers, investment trusts and other institutional investors, domestic and foreign, also are being approached for seed money for the proposed market, Yoshida says.
But nothing formal has been agreed upon, he emphasizes, and Milken's involvement may be limited to informal advice or access to his research network and investment contacts. "Milken is very rich and doesn't need the money, and, of course is very devoted to the idea," says Yoshida. "But he is a bit nervous about being involved, even in a tangential way, in anything related to the securities business."
That's because under the terms of Milken's probation -- he served less than two years of a 10-year prison sentence -- the ex-junk-bond king is barred indefinitely from "association with any broker, dealer, investment adviser, investment company or municipal-securities dealer." (Milken nonetheless was linked to deals in the 1990s involving some prominent former Drexel clients, including Ted Turner, Rupert Murdoch and Ron Perelman.) Whether that ban applies to overseas relationship is unclear. Axes also has a Stamford, Conn., subsidiary, Axes America LLC, which its Website describes as "providing investment information and products to Axes (Japan) and liaison with offshore funds."
Asked whether Milken's involvement in establishing a Japanese junk-bond market would be legal, a spokesman insisted "whether it would be or not, Mike has no intention of returning to that business." While confirming Milken did meet with Axes executives at their Tokyo seminar and perhaps on other occasions, the spokesman doubted specific business proposals were discussed.
Though most Japanese financial executives are familiar with Milken's past transgressions, they believe his expertise and knowledge would overcome any stigma. "We could use 10 Mike Milkens," quips Deutsche's Shima.
Still, he and other credit experts believe that it may take more than Milken's charisma -- or connections -- to get the idea of a junk-bond market off the ground, especially in a country where most investors prefer the safety of low-interest government bonds and bank deposits.
"Japanese investors are inherently pretty conservative, and it has only been in the last few years that they amended the law to permit a company rated less than single-A to issue a bond," notes Martin Fridson, former head of Merrill Lynch's high-yield research. "And I'm not sure how effective Mike Milken would be as an evangelist for a junk-bond market, unless he has toned down his message from the old days when he peddled junk bonds with missionary zeal. That would be a real turn-off for Japanese investors."
Banks would also have to stop making cheap loans to low-rated companies; most such loans are made by banks to members of their "keiretsu," or corporate groups, and receive favorable consideration. "It is difficult to compete with banks, when the spreads between a bank loan and a corporate bond are [five-to-six percentage] points," says Axes's Yoshida. "And as long as companies can get cheap money to sustain their operations, there is no reason for them to restructure."
Deutsche's Shima adds there is a cultural barrier to the development of a junk-bond market. "The ministry of finance has been giving negative guidance to institutional investors for years, telling them that low-rated corporate bonds are bad and should not exist," he explains. "And that would have to stop."
Nevertheless, as others point out, it is also an idea whose time may have come, with Japan's financial crisis showing no signs of abating.
"Japan faces a massive financial restructuring problem on the bank and corporate side," says Yago of the Milken Institute. "I don't see any other way out of the box other than to try to bring in investors at higher offering rates and allowing them to work out the country's existing debt problems," he adds. "Every year they delay just keeps them deeper in the box."
"There are many good companies eager to restructure their business but they need money," says Yoshida of Axes. "We are trying to persuade them to issue corporate bonds." To make the concept of junk bonds more compatible, Yoshida suggests using an alternative name like "Opportunity Bonds" or "Phoenix Bonds."
That's a monicker that an erstwhile Master of the Universe turned philanthropist, educator and entrepreneur like Mike Milken, with his Teflon-like resistance and ability to resurrect, reinvent and rehabilitate himself these past 10 years, would no doubt approve of.
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