Oil Slump Heaps Losses on Energy Debt in $50 Billion GlutNabila Ahmed and Matt Robinson
Gobbling up $50 billion of high-yielding U.S. junk-bond offerings by energy companies this year may have seemed like a good idea when oil was above $100 a barrel and yields were at record lows.
With prices falling toward $80, bond buyers have instead been saddled with more than $2 billion of lost market value and growing concern that too much credit has been extended too fast amid America’s shale boom. Prices on $1.6 billion of speculative-grade bonds sold by the upstart exploration firm of former Chesapeake Energy Corp. chief Aubrey McClendon have plunged as much as 19 percent since being issued in July. Another $1.1 billion issued the same month by Paragon Offshore Plc are down as much as 28 percent.
Because the borrowing capacity of oil and gas producers is directly tied to the value of their reserves, the falling commodity prices are increasing the risk that companies will face funding constraints should the selloff persist. Junk bonds issued by energy companies, which have made up a record 17 percent of the $294 billion of high-yield debt sold in the U.S. this year, have on average lost more than 4 percent of their market value since issuance, according to data compiled by Bloomberg.
“People are getting concerned about the ability to repay,” Ashish Shah, the New York-based global head of credit strategies at AllianceBernstein Holding LP, said in a telephone interview. “Bottom line: the cost of the thing they produce is declining and it’s declined very rapidly.”
Speculative-grade bond deals from energy companies have made up at least 16 percent of total junk issuance in the U.S. the past two years as the firms piled on debt to fund exploration projects, Bloomberg data show. Typically the average since 2002 has been 11 percent.
Of the losses handed to buyers of securities issued this year, $1.6 billion have come before the first interest payments were due, the data show.
In June, when oil prices reached the highest level in three years, energy bond yields of 5.7 percent matched the broader Bank of America Merrill Lynch U.S. High Yield index, making it attractive for some investors, said Shah, whose firm manages $262 billion in fixed-income assets and scaled back its purchases of energy-company debt earlier this year. Now investors are demanding a yield of 7.1 percent, 53 basis points more than the index’s average.
Debt in the high-yield energy index has lost 5 percent on average since the end of August, compared with a 2.6 percent decline for the broader junk-bond market.
A unit of McClendon’s American Energy Partners LP tapped the market in July for unsecured debt to fund exploration projects in the Permian Basin of western Texas. At the time, the offering made the company the most highly leveraged among energy exploration borrower rated by Moody’s Investors Service, which graded the bonds Caa1, a level that’s seven steps below investment-grade and indicative of “very high credit risk.”
The yield on the company’s $650 million of 7.125 percent notes maturing in November 2020 reached 11.4 percent yesterday as the price plunged to 81.5 cents on the dollar, according to Trace, the Financial Industry Regulatory Authority’s bond-price reporting system.
Jesse Comart, a spokesman for American Energy at Brunswick Group, declined to comment.
Paragon Offshore, which operates drilling rigs off coasts from Mexico to West Africa, sold $580 million of 7.25 percent, 10-year bonds in July at par that today traded at 72 cents on the dollar to yield 12.2 percent, Trace prices show.
“We’re obviously watching the recent oil price movement closely, but as yet we have not seen any impact on our business,” Lee M. Ahlstrom, a spokesman for Paragon, said in an e-mail.
Houston-based Hercules Offshore Inc.’s $300 million of 6.75 percent notes due in 2022 plunged to 57 cents today after being issued at par, with the yield climbing to 17.2 percent.
Son Vann, a spokesman for Hercules, didn’t respond to a telephone message seeking comment.
Oil and gas producers often have credit facilities in which their capacity to borrow is determined by the value of the company’s reserves. They assess them once or twice a year based on current commodity prices.
‘Playing on Edge’
Falling oil and gas prices may prompt those companies to lower the value of their reserves and “potentially lead to liquidity constraints for producers with significant borrowings,” Bloomberg Intelligence analyst Spencer Cutter said in a report last week.
“If you have an oil and gas company that’s got a CCC credit rating, you are playing on the edge,” Cutter said in a telephone interview.
At least 19 energy companies had more than 75 percent of their revolving credit lines outstanding and could be forced to repay debt if the facilities are reduced, Cutter said in the report. Those include Venoco Inc., QR Energy LP and Dune Energy Inc., he said.
“We don’t anticipate liquidity to be an issue,” QR Energy investor relations director Josh Wannarka said by telephone. “QR Energy has always taken a prudent approach to its hedging program. While short-term fluctuations in commodity prices are always unpleasant, hedging programs are put in place to mitigate those impacts to cash flows. The banks take the hedging programs into consideration.”
Zach Shulman, a spokesman for Venoco, declined to comment, while Steven Craig of Dune Energy didn’t return a telephone call and e-mail seeking comment.
U.S. traded futures contracts for oil and the European benchmark both fell more than 20 percent from their June peaks this week, meeting a common definition of a bear market. At the same time, oil production is surging as a combination of horizontal drilling and hydraulic fracturing, or fracking, unlocks supplies from shale formations.
Output will climb to 9.5 million barrels a day next year, the most since 1970, the Energy Information Administration estimated Oct 7. In contrast, demand nationwide will slip this year to the lowest since 2012, the government predicted.
“Leverage is going to be going up throughout the sector given lower prices if you are looking at rating against reserves value,” Stuart Miller, a Moody’s analyst in New York said in a telephone interview.
“Oil has gone from $100 to $85 - that’s caused a 10-15 percent drop in reserve value,” Miller said.
With the oil price entering bear market territory last week, the falling prices of junk-rated energy company bonds are attracting distressed funds starved of opportunities elsewhere in debt markets, Srihari Rajagopalan, a credit analyst at UBS AG in New York, said in a telephone interview.
“Energy as a whole re-priced for near-term risk,” he said.