Junk Bonds Forebode Trouble Ahead for British High Streetby
Moody’s sees tough second half of 2017 when inflation felt
Yield spreads for retailers stay elevated after Brexit
An early test of Brexit is taking shape in the bond market, where investors are marking down the debt of British shopkeepers with an eye on how rising inflation will translate into thriftier customers.
Refinancing risks are multiplying. Bank of America Corp.’s gauge of borrowing costs for high-yield retailers and eateries in pounds has increased 23 basis points since Brexit. That’s while peers have seen yield premiums fall.
“Their spreads are signalling investor concerns over a hit to consumer demand and corporate investments,” said Amit Jain, partner and portfolio manager at Ironshield Capital Management in London.
Large debt burdens that in some cases are the legacy of private-equity backed buyouts are eroding cushions for High Street chains to absorb shocks -- like adjusting to Brexit and the fastest inflation in two years hitting consumers. Azzurri Group Ltd., which owns ASK Italian, Zizzi and Coco di Mama restaurant chains, plans to take on more debt to pay a dividend of up to 83 million pounds ($103 million) to its private-equity owner, Bridgepoint.
Some bonds of budget clothing chain Matalan Ltd. are trading at less than 80 cents on the dollar, the industry definition for distress and a signal investors would recover less in a default.
Matalan’s debt is seven-times earnings before interest, taxes, depreciation and amortization, or Ebitda, according to Moody’s Investors Service, which lowered its rating on the company’s senior secured notes to six steps below investment grade in November.
Eleanor Purdon, an outside spokeswoman for Matalan, declined to comment on the retailer’s bond prices and debt levels.
There’s been little evidence to suggest consumers have started to cut back yet: retail sales grew at their fastest annual pace in more than a year in November, according to the Confederation of British Industry.
Still, growth in Britain is expected to slow to 1.1 percent in 2017, from 2 percent in 2016, as the pace of inflation accelerates threefold to 2.4 percent. Pressure on retailers will mount next year, as higher production costs eat into profits, and passing them onto inflation-wracked customers by raising prices gets harder, according to Moody’s.
“While hedging means the impact of the post-Brexit weakness in sterling is unlikely to have a direct impact on most clothing retailers costs until the second half of 2017, cost inflation in other areas of the economy, such as food retail, will have a negative impact on disposable income before then,” the ratings firm noted in its report downgrading Matalan. “Clothing retailers are likely to find it difficult to fully protect margins.”