High Yield Market Collapsing, Highly Leveraged Companies in Run-Off Mode 18 comments
April 24, 2009
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While the vicious love quadrangle (no pun intended Mr. Rattner) of Bernanke, Geithner, Lewis (BAC) and Vikram (C) pound the table on just how well lubricated the credit markets have become, the truth is that aside from ultra high quality Investment Grade names and TLPG-backed financial issuance, the credit market is for all practical purposes still in critical condition and about to be carted off to the morgue. The fact is that YTD issuance in the riskier HY and loan markets (see charts below, click to enlarge) stands at a meager $22 billion - the lowest level in recent history. And drilling down with the HY issues specifically, the highest rated (BB) issues as a percentage of all issuance stands at 65% YTD: the second highest on record since the 1991 credit cycle bottom.
What is more troubling is that new issuance volume is not supply constrained: 81% of HY new issue proceeds is to refi existing debt, mostly near-maturing and cheaper loans. Normally refis stand at around 50% from a Use Of Proceeds perspective. As there is $80 billion in 2009 scheduled maturities, assuming the YTD issuance trend persists into the balance of the year, all else being equal, any new money will go dollar for dollar to match upcoming maturities. The refi rush is not limited to HY - of the other industrial BBB-rated deals done last month, all 8 listed refinancing as a use of proceeds (as well as the generic general corporate purposes).
While credit markets are still marginally open to only the highest quality and least risky corporates, it seems that virtually everyone who still has capital markets access is only focusing on balance sheet clean up. The other two major needs for new capital: M&A activity and CapEx are virtually at a standstill. This implies that the economic downturn is likely to get even worse as capital is drastically redirected not into investment opportunities and economic growth but merely band aiding against potential restructurings. This last point is further confirmed by the Fed senior loan officer survey, which indicates that over 60% of banks saw a drop in bank credit demand. So much for the Treasury's cheap credit being used to flow back into the economy: the major beneficiaries from any loosening in credit conditions seem to be banks themselves who manage to offload their existing loan exposure in risky names to new investors. This is a phenomenon we have seen recently with none other than the REIT space, where instead of HY bonds, outright equity has been issued to repay banks' credit facilities.
Two other items to be pointed out are that if the recent rally collapses and credit capital markets shut down (not to mention REIT equity refi opportunities), then the massive upcoming 2009 maturities have no chance of being addressed and the default wave will likely end up even worse than Moody's and S&P's estimates of 2009 full year defaults of over 20%. A logical follow through question is with all the upcoming bankruptcies and the resulting mass lay offs, how can any pundits (let alone economists) say we will soon see an abatement in unemployment trends? If 20% of all HY companies indeed file for bankruptcy, the additional numbers of unemployed (by some estimates around 3 million upcoming pink slips) will represent another huge shock to the U.S. economic system. And this number excludes the newly unemployed from the upcoming fallout of a GM bankruptcy.
The other item to point out is that the limited demand for new issues as HY investors are not stupid and would rather not funnel their money into banks' loan repayment, but would rather see some economic use of their capital, even if the rate is exorbitant: a 15% interest rate bond bought at par that goes to 40 in one year is still a loss of 45%. This has manifested itself in higher secondary market prices for older vintage deals, the result being an outperformance of older vintage HY deals. As the technical considerations eventually dissipate it is likely that we will see a substantial sell off of the lower rated HY bonds, to parallel the upcoming sell off in the "crap" stocks that have driven the last month's equity rally.
hat tip to BofA for primary data.
What is more troubling is that new issuance volume is not supply constrained: 81% of HY new issue proceeds is to refi existing debt, mostly near-maturing and cheaper loans. Normally refis stand at around 50% from a Use Of Proceeds perspective. As there is $80 billion in 2009 scheduled maturities, assuming the YTD issuance trend persists into the balance of the year, all else being equal, any new money will go dollar for dollar to match upcoming maturities. The refi rush is not limited to HY - of the other industrial BBB-rated deals done last month, all 8 listed refinancing as a use of proceeds (as well as the generic general corporate purposes).
While credit markets are still marginally open to only the highest quality and least risky corporates, it seems that virtually everyone who still has capital markets access is only focusing on balance sheet clean up. The other two major needs for new capital: M&A activity and CapEx are virtually at a standstill. This implies that the economic downturn is likely to get even worse as capital is drastically redirected not into investment opportunities and economic growth but merely band aiding against potential restructurings. This last point is further confirmed by the Fed senior loan officer survey, which indicates that over 60% of banks saw a drop in bank credit demand. So much for the Treasury's cheap credit being used to flow back into the economy: the major beneficiaries from any loosening in credit conditions seem to be banks themselves who manage to offload their existing loan exposure in risky names to new investors. This is a phenomenon we have seen recently with none other than the REIT space, where instead of HY bonds, outright equity has been issued to repay banks' credit facilities.
Two other items to be pointed out are that if the recent rally collapses and credit capital markets shut down (not to mention REIT equity refi opportunities), then the massive upcoming 2009 maturities have no chance of being addressed and the default wave will likely end up even worse than Moody's and S&P's estimates of 2009 full year defaults of over 20%. A logical follow through question is with all the upcoming bankruptcies and the resulting mass lay offs, how can any pundits (let alone economists) say we will soon see an abatement in unemployment trends? If 20% of all HY companies indeed file for bankruptcy, the additional numbers of unemployed (by some estimates around 3 million upcoming pink slips) will represent another huge shock to the U.S. economic system. And this number excludes the newly unemployed from the upcoming fallout of a GM bankruptcy.
The other item to point out is that the limited demand for new issues as HY investors are not stupid and would rather not funnel their money into banks' loan repayment, but would rather see some economic use of their capital, even if the rate is exorbitant: a 15% interest rate bond bought at par that goes to 40 in one year is still a loss of 45%. This has manifested itself in higher secondary market prices for older vintage deals, the result being an outperformance of older vintage HY deals. As the technical considerations eventually dissipate it is likely that we will see a substantial sell off of the lower rated HY bonds, to parallel the upcoming sell off in the "crap" stocks that have driven the last month's equity rally.
hat tip to BofA for primary data.
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"Used to the conditions of a capitalistic environment, the average American takes it for granted that every year business makes something new and better accessible to him. Looking backward upon the years of his own life, he realizes that many implements that were totally unknown in the days of his youth and many others which at that time could be enjoyed only by a small minority are now standard equipment of almost every household. He is fully confident that this trend will prevail also in the future. He simply calls it the American way of life and does not give serious thought to the question of what made this continuous improvement in the supply of material goods possible."
There has been much innovation by businesses in the capital markets in the past 50 years, however the ability for companies to continue to innovate is slowing. I would call this an opportunity for the garage tinkerers' but a major boon for the securitized western markets.
Banks are forcing massive numbers of small business employers into bankruptcy by calling the loans/notes on PAYING customers. So, because of bad balance sheets.
Also, banks are raising interest rates (again, truly this is the third time in 2 years-but the media has completely ignored reality-again) on paying, high debt load credit card customers, because of (again) bad balance sheets.
Am I the only person in America who pays her bills and takes it up the ass from my "friendly, customer service" bank? I'm not. Yet we ignore reality.
Running businesses, I learned long ago, your BEST customers are those that:
1. Cause little fuss. Big accounts are great, but usually they are a big pain in the neck. Give me 50 small guys that consistently frequently buy and never demand anything. These are exactly the customers the banks are telling to f*$% off.
2. Run up decent sized accounts, always pay so continuous cashflow and #1.
3. Provide you the best marketing tool money can't buy, up-sell potential. Your frequent customers are a gold mine of new business. Banks are firing them and creating (more) hatred and resentment.
For many in this country the hypocrisy of the situation is mind-numbing. We are walking around in shock that based on financials , or industry, we are being forced into bankruptcy--even if we make every single payment to every single creditor.
btw-in the interest of honesty I will confess that the banks are firing me. My company, while still marginally profitable-due to massive cost cutting implemented over the past 7 years of a Michigan recession-is being forced into insolvency because manufacturing is "too risky" for the "current market conditions". And I know 5 other small businesses that are going through the same thing.
The banks are bankrupting their best customers, in a consumer driven society that was living on free credit. They changed the rules AFTER we borrowed the money and are still profiting from destroying our country.
F* the banks and thanks Tyler.
Lenders want their principle back, and they will price accordingly and therefore yields will represent the risk premium. Lenders are cold, calculating (in a good way) not not subject to the emotions of equity investors.
Therefore, the credit market metrics indicate significant risk of continued economic slowdown, regardless of the "green shoots" rally in the equity markets.
On Apr 24 10:33 AM asaf123 wrote:
> The fixed income market is a much better indicator of future economic
> prospects vs. the equity markets.
>
> Lenders want their principle back, and they will price accordingly
> and therefore yields will represent the risk premium. Lenders are
> cold, calculating (in a good way) not not subject to the emotions
> of equity investors.
>
> Therefore, the credit market metrics indicate significant risk of
> continued economic slowdown, regardless of the "green shoots" rally
> in the equity markets.
Basically, the American oligopoly (monopoly capitalism) has been in a war with small business since before the Civil War (the big railroads started it) and the secret dream of most small business owners has too often been to become the next Microsoft or Comcast, instead of simply an esteemed business that provides a needed product or service.
Sadly, since World War II at least, America has moved closer to the very thing we fought a revolutionary war with Britain to overcome: the 18th century British aristocracy.
The first rule of Alcoholics Anonymous is that an alcoholic has to face the fact that s/he is an alcoholic before s/he can be cured. Facing up to our economic problems is the biggest problem America faces at the moment.
When people such as yourself have the problem shoved up your nether regions, it's very hard to ignore. But we know what most alcoholics do when called to face their problem. They have another drink. Let's hope the American 'consumerholic' will be wiser.
On Apr 24 09:42 AM TeresaE wrote:
> Congress saved banks because of bad balance sheets.
>
> Banks are forcing massive numbers of small business employers into
> bankruptcy by calling the loans/notes on PAYING customers. So, because
> of bad balance sheets.
>
> Also, banks are raising interest rates (again, truly this is the
> third time in 2 years-but the media has completely ignored reality-again)
> on paying, high debt load credit card customers, because of (again)
> bad balance sheets.
>
> Am I the only person in America who pays her bills and takes it up
> the ass from my "friendly, customer service" bank? I'm not. Yet
> we ignore reality.
>
> Running businesses, I learned long ago, your BEST customers are those
> that:
>
> 1. Cause little fuss. Big accounts are great, but usually they
> are a big pain in the neck. Give me 50 small guys that consistently
> frequently buy and never demand anything. These are exactly the
> customers the banks are telling to f*$% off.
>
> 2. Run up decent sized accounts, always pay so continuous cashflow
> and #1.
>
> 3. Provide you the best marketing tool money can't buy, up-sell
> potential. Your frequent customers are a gold mine of new business.
> Banks are firing them and creating (more) hatred and resentment.
>
>
> For many in this country the hypocrisy of the situation is mind-numbing.
> We are walking around in shock that based on financials , or industry,
> we are being forced into bankruptcy--even if we make every single
> payment to every single creditor.
>
> btw-in the interest of honesty I will confess that the banks are
> firing me. My company, while still marginally profitable-due to
> massive cost cutting implemented over the past 7 years of a Michigan
> recession-is being forced into insolvency because manufacturing is
> "too risky" for the "current market conditions". And I know 5 other
> small businesses that are going through the same thing.
>
> The banks are bankrupting their best customers, in a consumer driven
> society that was living on free credit. They changed the rules AFTER
> we borrowed the money and are still profiting from destroying our
> country.
>
> F* the banks and thanks Tyler.
Even a few months ago it was hard to see any signs of a crisis in the street. Mall's full, highway's busy etc. Now it's common to see more and more dark empty stores showing up all over.
Who ever invented credit in the first place? It seems like there is no living without it. Apparently it has tanked the whole country.
And former sworn protector of the economy Mr. Greenspan was aware of the unprecedented risk when CDO's were being created well before the shit hit the fan. It's in his book, "Age Of Turbulence". Now it's becoming the 'age of stress'. Anyone have any good tree bark recipes?
All the Zoloft in the world can't put Humpty Dumpty back together again, and All The King's Men are having a pretty bad day too. And still they try. I suppose there is a certain nobility in their futility.
Thanks for a nice post, concise and full of good information.
But that's just me, and I could be wrong.
Thanks again.
As I was reading your article I began to see a wave forming in the distance, and then in your second last paragraph you shined a light on it. Does this phenom explain the shape of the historic DOW charts (e.g. 1929-1933, as successive waves of failures hit the system and then feed back into it, initiating the next wave?
All the pundits were so happy and smiling on TV today. Best of luck to all the green shooters out there, you're gonna need it.
Nice compliment to Tyler's postings:
www.nytimes.com/2009/0...
Well, i took my gains yesterday. I am completely out of HYG. Sold 1/2 on the open yesterday, then the other 1/2 on the close.
Moved 1/2 to cash and 1/2 back to Greenspring, a long term mutual fund of mine (one of the only 2, I do not like them, prefer individual equities)
I want a proven manager watching my debt right now.
I think the easy money was made, at least for me, in the HYG. I am getting more conservative again.
JMHO
On Apr 24 10:26 AM drbob66 wrote:
> HYG looks like it wants to break out to about $79.
1. own what you have.
2. save under your mattress
3. Keep survival gear in your basement.
4. Spend lots of time with family.