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New issuances suggest that investor anxiety over economic troubles in Europe may be easing.
Vincent Ryan, CFO.com | US
June 18, 2010
After a slow second quarter so far, the pall that has been hanging over the credit markets may be beginning to dissipate.
Investment-grade bond sales picked up last week. The market absorbed offerings from the likes of Bank of America, JPMorgan, Lincoln National, HSBC, Prudential Financial, and Caterpillar Financial Services. That's a marked change from activity levels in May and early June. Besieged oil giant BP is reportedly contemplating issuing $10 billion in notes, if credit-rating downgrades don't make such debt too expensive.
Corporate bond issuance rallied in late 2009 and early 2010, helped by fewer defaults, healthy economic data, and high demand from investors for yield product, says Mariarosa Verde, managing director of credit market research at Fitch Ratings. Speculative-grade, or junk, paper issuance for the first quarter jumped 28%, to $56.3 billion. Overall, new issuance in the United States totaled $182.6 billion in the first quarter, a 37% increase over 2009's closing quarter.
About 45% of that total hit the market in March. But then new issuance slowed as a result of contagion from the Greece crisis and worries over the debt woes of some European countries. In recent days, however, anxiety levels have fallen, helped by Spain's successful borrowing from the bond markets on Thursday.
Volatility in spreads hints of continued swings in bond investor sentiment. As of Friday, the Standard & Poor's investment-grade composite spread was 205 basis points, 49 basis points wider than the two-year lows of April. The speculative-grade spread stood at 670 basis points, compared with 553 basis points in April. Standard & Poor's expects the volatility to continue.
So does Ron D'Vari, chief executive of NewOak Capital. Despite inviting conditions, stresses in the U.S. and European economies will continue to weigh on companies and make CFOs anxious over how their company's paper will be received, says D'Vari. Corporates can't escape the anxiety surrounding the fiscal fitness of countries, he says. "It's like saying the condition of the ocean doesn't affect the fish."
Adds D'Vari: "What is the fundamental role of governments going forward in this recovery? What's their financial soundness? If you're a corporate entity, how do you plan hiring or firing, or expansion, without knowing that?" The clouds might clear if and when the effects of newly installed austerity programs in Europe become better understood, he says.
The good news is that investors in long-term mutual funds are allocating more money to bonds. Bond mutual funds took in $4.73 billion the week of June 9, while $2.88 billion flowed out of equity funds, according to the Investment Company Institute.
Bond buyers of all kinds can also be comforted by lower projections for corporate defaults on speculative-grade debt. S&P projects a year-end rate of 6.9% at the high end; the current 12-month trailing rate for junk debt is 10%. There are still many companies bearing high levels of bank debt from leveraged buyouts, however.
Projections that the Federal Reserve will leave interest rates alone until late 2011 or 2012 as inflationary pressures dissipate is another positive. Stable rates preserve the value of the fixed-rate coupons that investors earn on bonds.
Another factor constraining credit-market activity is companies' reduced need for capital. While May and June are typically busy months for bond issuers, many companies are holding back on capital spend or tapping cash reserves if they do spend. Others have already refinanced existing bank debt with bonds or renegotiated the large leveraged loans that crippled their balance sheets through the recession.