Junk Yields Top 10% as Growth Woes Shutter Market: Euro Credit

Junk-rated European company bond yields climbed above 10 percent for the first time in a year as investors demand more compensation for the region’s stalling economic growth.

“These psychological levels are quite important, going from nine to 10 is different from going from eight to nine,” said Michael Hampden-Turner, a credit strategist at Citigroup Inc. in London. “You’re seeing outflows of funds but if we went to 11 percent that would certainly attract attention as a buying opportunity.”

Yields on speculative-grade debt climbed to as high as 10.1 percent on Aug. 11, the most since June 2010 and 2 percentage points up on the start of this month, according to Bank of America Merrill Lynch’s Euro High-Yield Constrained Index. That’s double the rate on Italian and Spanish 10-year government debt after the European Central Bank bought the securities to bring down yields to contain Europe’s sovereign crisis.

Borrowers unwilling to pay the higher premiums demanded by investors as the risk of recession looms means there have been no new junk bond sales in Europe since July 26, according to data compiled by Bloomberg. Gross domestic product in the 17- nation euro region rose 0.2 percent in the second quarter, the worst performance since it emerged from recession in 2009.

Deteriorating Conditions

The extra yield buyers demand to own junk bonds instead of benchmark German bunds has almost doubled in the past four months as investors seek havens for their cash, Bank of America Merrill Lynch data show. The spread is at 816 basis points, or 8.16 percentage points, up from this year’s low of 476 basis points on April 11.

“It would certainly be a lot more difficult than a couple of weeks ago” to sell high-yield debt, said Stefan Huber, group treasurer for Vienna-based brickmaker Wienerberger AG (WIE), which sold junk-rated bonds in June. “In the last two months conditions on the market have certainly deteriorated.”

The world’s biggest brickmaker raised 100 million euros ($143 million) from a sale of 5.25 percent bonds on June 21 priced to yield 279 basis points more than German government debt, according to data compiled by Bloomberg. The spread has widened to about 325 basis points, according to Erste Group Bank AG prices on Bloomberg.

Wienerberger is rated Ba1 by Moody’s Investors Services and BB at Standard & Poor’s. High-yield, or junk, bonds are rated below Baa3 by Moody’s and BBB- by S&P.

Cash Conservation

The prospect of government and central bank intervention to stave off recession is making investors wary of buying, according to Chris Brils, co-head of global high-yield at F&C Management Ltd.

“No one has a strong conviction on what policy makers are going to do, so you’re probably likely to conserve your cash and see what happens with yields,” said Brils, whose firm oversees almost 1 billion euros of speculative-grade assets and bought “very small quantities” of bonds last week.

Junk bonds currently yield 9.8 percent on average, down from last week’s high, Bank of America Merrill Lynch data show.

Italian plastic and glass packaging maker Bormioli Rocco Holdings SA was the last company to offer sub-investment grade bonds, according to data compiled by Bloomberg.

The paucity of new issues is a reversal of the first half of 2011 when companies from Fiat SpA (F) to distiller Pernod Ricard SA sold a record 31.8 billion euros of junk-rated debt as they took advantage of tumbling default rates and tightening yield spreads, Bloomberg data show.

“It’s true that you don’t see a lot of issuance in the summer, but we’re playing the game now where a lull in volatility can turn into a deal,” said Citigroup’s Hampden- Turner. “You do get issuers looking for spots of calm. But any deal would be tough.”

Austerity Bites

Confidence in junk-rated debt is deteriorating as nations such as Italy and Spain tackle the debt crisis by implementing austerity measures that may hamper economic growth and hurt companies’ ability to pay debt.

“You’re looking at an environment where a lot of these companies are fundamentally linked to the economic outlook,” said Andrew Sheets, head of European credit strategy at Morgan Stanley in London. “They’re ultimately tied to a European economy and a European banking system, both of which are currently struggling.”

Corporate defaults in Europe could rise as concerns so- called peripheral countries will be unable to pay their debt seeps into the region’s financial system, Moody’s said in an Aug. 8 report. The ratings firm estimates the global default rate may increase to 1.8 percent in 2012 from 1.5 percent at the end of 2011 while the risk of recession persists.

Returns Erased

Speculative-grade bonds lost investors 1.1 percent this year after forfeiting 5.2 percent since the end of July, according to Bank of America Merrill Lynch data. That’s after the securities earned 14.7 percent last year and a record 76.4 percent in 2009.

European-based mutual funds reduced holdings of high-yield bonds for the first month this year in June, pulling 1.1 billion euros out of junk-rated debt, according to Fitch Ratings. That compares with a net inflow of 5.1 billion euros in the first half. Funds added 290 million euros of investment-grade debt in June after cutting 230 million euros in May, Fitch said.

“Prior to the most recent resurgence of the eurozone crisis we’ve seen both quality companies and companies in much more challenged circumstances managing to get deals done,” said Norval Loftus, chief investment officer at Allegra Investment Management Ltd. in London. “That second type of company is going to find it much more difficult to obtain financing even at significantly higher spreads.”

To contact the reporters on this story: Ben Martin in London at bmartin38@bloomberg.net; Hannah Benjamin in London at hbenjamin1@bloomberg.net

To contact the editor responsible for this story Paul Armstrong at Parmstrong10@bloomberg.net

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