New investment-grade corporate bond sales continue to flood the market, amid still ultra-low U.S. interest rates.
To date this week, a total of more than US$25.25bn of high-grade corporate debt priced, trouncing most syndicate managers’ expectations by almost 118%, and to this point in March, issuance has tallied around US$65.75bn.
Bond investors widely attribute part of the ongoing onslaught of issuance to the Federal Reserve’s maintenance of cheap borrowing costs.
The Federal Open Market Committee (FOMC), the Fed’s policymaking body, had decided at its January meeting to leave the target range for the federal funds rate at 2.25-2.50%, and noted it will be “patient” as it determines what future adjustments may be necessary.
Many in the financial markets had interpreted the FOMC’s statement as a sign that the central bank will refrain from further rate hikes and other “quantitative tightening” measures throughout 2019; and with the rate of inflation having slowed somewhat in February, amid trade-related tariff effects on commodities and import prices, market participants generally expect the Fed to maintain its wait-and-see stance.
In fact, since the Fed, under former chair Ben Bernanke, established the federal funds rate at 0-.25% in mid-December 2008, the median yield on the U.S. 10-year note has been 2.46%.
According to SIFMA researchers and recent data sourced by Thomson Reuters, in the ten-year period from 2008-2018, investment-grade and high yield corporate debt issuance has soared more than 61% and 139%, respectively, over the prior decade – from 1997-2007. On a combined basis, the past ten years have seen nearly US$14trn in new deals come to market, an increase of over 71.5% from the prior decade.
Demand for Quality
The issuance also continues to see healthy demand, in large part as improvements in the U.S. economy have been helping lure investors to the yield offered in the primary market – especially those buyers who have been priced out of their local markets or have a dearth of available paper.
The yields on 10-year Japanese and German government bonds were last in the area of -0.048% and 0.070%, respectively, while the yield on the 10-year U.S. Treasury note was last around 2.587%.
However, many bond investors have been recently exercising greater caution, with a penchant for higher quality, domestic corporate bonds, amid a growing list of geopolitical uncertainties and global growth concerns, including a resolution to Brexit, U.S.-China trade negotiations and slowing European and Chinese growth.
For the week ended March 6, Thomson Reuters/Lipper U.S. Fund Flows reported a net inflow of roughly US$2.0bn into investment-grade corporate bond funds, while high yield funds reported net outflows of around US$1.9. By the same measure, international and global debt funds posted net outflows of US$469m, underscoring how interest is generally confined to the U.S.
Among the deals that priced this past week, Synchrony Financial’s (NYSE: SYF) two-part issuance, for example, underscored investors’ strong demand for up-in-quality, U.S. dollar-denominated debt.
The company sold US$1.25bn of ‘BBB’-rated, five-year and 10-year senior notes for general corporate purposes, as well as to redeem certain of its outstanding debt.
Ron Quigley, head of fixed income syndicate at Mischler Financial – the nation’s oldest service-disabled veteran broker-dealer and co-manager on the offering – observed that investor interest was “prolific” for both tranches, with the cumulative average of both books a “resounding 4.52-times oversubscribed, despite pricing with a combined average <2.25> bps concession.
“It is indeed a very positive credit story.”
Synchrony Financial’s 4.375% notes due March 19, 2024 priced at a spread of 200bps more than matched-maturity U.S. Treasuries, while its 5.15% March 19, 2029 bonds were sold at a cash spread of 255bps – each about 25bps tighter than their initial price talk.
The deal was jointly lead-managed by Citigroup, J.P. Morgan and Wells Fargo Securities.
Quigley furthermore observed at least 17 potential deals in the pipeline, including from Walgreens Boots Alliance (NASDAQ: WBA), Macy’s (NYSE: M), Microsoft (NASDAQ: MSFT) and Apple (NASDAQ: AAPL) – each of which recently registered debt securities-related automatic shelf filings with the SEC.
Meanwhile, Atlanta-based United Parcel Service (NYSE: UPS) also graced the docket Wednesday with a US$1.5bn note sale, primarily to repay outstanding debt.
Spreads on UPS’s new 10-year and 30-year tranches compressed by roughly 17.5bps and 12.5bps, respectively, over the course of pricing.
Moody's Investors Service rated the new senior unsecured notes ‘A1,’ citing that the issuance will “modestly increase funded debt, with nominal effect on Debt to EBITDA.”
Moody's analysts Jonathan Root and Robert Jankowitz noted that Debt to EBITDA will range between 2.5x and 3x through the end of 2020, compared to 2.9x at end-December 2018.
UPS’s revenues were roughly US$72bn in 2018.
Earlier in March, however, Moody's changed its outlook on UPS to negative from stable due in large part to the potential for the firm’s funded debt to remain elevated through and beyond 2020. The ratings agency said it suspects the level will stay high given the company’s significant shareholder returns during a period of weaker free cash flow generation, amid increased capital investment, as well as ongoing contributions to the company's defined-benefit pension plans.
For its fiscal year 2019, the company expects earnings per share to be in a range of US$7.45 to US$7.75, which includes pension financing costs headwinds of about US$325m. It also anticipates capital expenditures to range between 8.5% and 10% of 2019 consolidated revenue.
Mounting Debt Set to Rise Further
In the meantime, the FOMC is due Wednesday, March 20, to announce its monetary policy decision, followed by a press conference with Fed chair Jerome Powell. Market participants widely expect the central bank will keep the target range to the federal funds rate unchanged.
Given the ongoing, low rate environment, the Fed’s dovish policy stance, and continued investor appetite for high quality corporate debt, the U.S. investment-grade primary market is likely to continue to churn out deals.
Syndicate managers generally expect a total of around US$119.5bn in March, while, to date in 2019, a little more than US$282.5bn of new U.S. dollar-denominated issuance priced.
Note: This material was originally published on IBKR Traders' Insight on March 15, 2019.
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