Distressed Bonds at 59 Cents Threaten Emerging Market Gains

  • Global high-yield bonds set for first yearly loss since 2008
  • Corporate defaults at highest since credit crisis, S&P says

Investors may struggle to profit from bonds of distressed companies in developing nations this year after a plunge last quarter, teamed with an increasingly uncertain outlook, looks set to erase 2015’s gains.

The securities tumbled 13.4 percent in the three months to Sept. 30, paring annual returns to 0.95 percent, a Bank of America Merrill Lynch index shows. The market value of the gauge’s 156 notes has dropped by almost 30 percent since Dec. 31 to $54 billion, or about 58.8 cents on the dollar. Global high-yield bonds fell 4.51 percent in the third quarter, bringing year-to-date losses to 1.4 percent. They’re on track for their first negative return since 2008.

“A broad recovery will be elusive,” David Tawil, a co-founder of New York-based Maglan Capital LP, said. “There will be increasing dislocation, mostly driven by companies with considerable leverage. That may lead to significant restructuring and defaults.”

Losses on emerging market distressed notes have accelerated since May amid a slump in oil prices, economic sanctions against Russia and landmark defaults in China. Of the 81 corporate defaults globally this year -- the highest since 2009 -- 17 have come from developing nations, already more than the 15 in all of 2014, Standard & Poor’s said in a report Thursday. Things won’t get better until investors become comfortable with the near-term environment for commodities and the slowdown in global growth, Tawil said.

The Bloomberg Commodity Index slipped 14.5 percent last quarter, its worst performance since the last quarter of 2008. Crude, coal and iron ore prices sank, triggering a 69 percent slump this year in the shares of Glencore Plc, the world’s biggest commodity trader. U.S. banks including Morgan Stanley and Citigroup Inc. predict more weakness ahead.

Fitch Ratings Ltd. lowered its 2015 global growth forecast to 2.3 percent Wednesday, citing recessions in Brazil and Russia and a structural slowdown in China along with many other emerging markets.

“Emerging markets are becoming an increasing source of global growth risks as the collapse in commodity prices and political shocks exacerbate a secular slowdown,” the rating company said. In China, “growth continues to be supported by robust consumption and policy easing. However, there are downside risks from the real estate sector, capital flows and policy settings.”

Notes of oil drillers Odebrecht SA and Pacific Exploration & Production Corp. were among the distressed index’s worst performing last quarter, shedding more than 50 percent in value. Odebrecht’s $1.23 billion of 6.35 percent 2021 bonds are trading at 35.54 cents on the dollar versus 77.16 cents at the start of the quarter, Bloomberg-compiled prices show.

Indonesia Woe

In Asia, debentures of Indonesian companies including PT MNC Investama, PT Indika Energy and PT Gajah Tunggal did especially badly, with the latter’s $500 million of 7.75 percent 2018 securities dropping to 41 cents on the dollar from 83.87 cents.

Another Indonesian company, PT Berau Coal Energy, defaulted on its dollar bonds and is now embroiled in a $950 million restructuring with noteholders. In Brazil, a sugar glut claimed Tonon Bioenergia SA, which in July struck a debt exchange to solve its short-term payment problems.

The extra spread investors demand to hold Asian non-investment grade bonds over Treasuries rose to 625.8 basis points Thursday, the highest since January, JPMorgan Chase & Co. indexes show.

“Whether credit spreads subside like they did in 2014 remains to be seen, but the challenges faced this time around are more fundamental,” Markit Economics’ London-based analyst Neil Mehta said in a Sept. 24 report. “Low commodity prices that look unlikely to move, the potential for a stronger U.S. dollar if the U.S. hikes interest rates and weak global demand stemming from China all have the potential to prologue a risk off environment in the region.”

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