High-Grade Bonds Whip Junk; GM Sets Terms on Loan for IPO: Credit Markets
Returns on U.S. investment-grade corporate bonds are pulling ahead of junk-rated debt as credit investors turn to borrowers likely to weather a slowing economy.
Led by Wal-Mart Stores Inc., Oracle Corp. and Merck & Co., company bonds deemed safest by ratings firms have gained 1.36 percent this month, compared with 0.08 percent for speculative- grade debentures, Bank of America Merrill Lynch index data show. Investment-grade bonds are up 9.7 percent this year, topping the 8.5 percent for junk notes, the widest gap since credit markets seized up in 2008.
Signs growth may be faltering led Federal Reserve Chairman Ben S. Bernanke to say on Aug. 27 the central bank will do “all it can” to prevent a return to recession. Investors are taking no chances, seeking companies that have stockpiled cash and cut debt, which stands at about two times cash flow, down from 2.2 in 2009, according to JPMorgan Chase & Co.
“Unlike 2008, companies aren’t in a position where they have to issue” debt, said Ashish Shah, co-head of global credit investment at AllianceBernstein LP in New York, where he helps oversee $199 billion in fixed-income assets. “They have great liquidity and they’re generating free cash flow because they’re squeezing their costs lower.”
Yields on investment-grade bonds average about 4.71 percentage points less than junk, compared with 3.76 percentage points in April, showing that investors perceive less risk to owning the debt.
‘Slow Growth Environment’
“A slow growth environment is an ideal environment for investment-grade credit,” Shah said. “When yields are at the lowest levels we’ve seen but for a blip in 2008, it makes credit attractive.”
Elsewhere in credit markets, relative yields on corporate bonds from the U.S. to Europe and Asia rose last week, General Motors Co. and its lenders agreed on the terms of a $5 billion credit line and Sara Lee Corp. said it planned to sell debt.
The extra yield investors demand to own fixed-income securities issued by companies instead of the U.S. government widened 2 basis points last week to 178 basis points, according to the Bank of America Merrill Lynch Global Broad Market Corporate Index. Yields rose to 3.535 percent from 3.511 percent on Aug. 20, the first weekly increase since the period ended June 11.
The cost of protecting corporate bonds in the U.S. from default rose after a report showed personal income climbed less than expected in July. The Markit CDX North America Investment Grade Index Series 14 rose 1.2 basis points to a mid-price of 112.3 basis points as of 11:25 a.m. in New York, according to Markit Group Ltd.
Disposable incomes, or the money left over after taxes, dropped for the first time since January after adjusting for inflation, according to Commerce Department figures today, showing how the lack of jobs may prevent spending from strengthening.
The Markit index, which investors use to hedge against losses on corporate debt or to speculate on creditworthiness, has increased for three consecutive weeks, according to Markit.
The index, which typically rises as investor confidence deteriorates and falls as it improves, reached 114.5 on Aug. 26, the highest since July 7. Credit-default swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.
“The issue at this stage is not whether we have the tools to help support economic activity and guard against disinflation. We do,” Bernanke said in his Aug. 27 speech to central bankers and economists at the Fed’s annual conference in Jackson Hole, Wyoming, detailing choices that include renewed large-scale securities purchases.
GM, the automaker 61 percent owned by the U.S. government, is preparing the second-biggest initial public offering in American history even as doubts about the recovery grow. The company will pay 4 percentage points more than the London interbank offered rate on a $5 billion credit line it’s raising in connection with the stock sale, according to a person familiar with the transaction who declined to be identified because the talks are private.
GM will pay lenders a 0.75 percent commitment fee on the unused portion of the revolver, said the person. JPMorgan, Morgan Stanley, Bank of America Corp., Citigroup Inc., Goldman Sachs Group Inc., Barclays, Credit Suisse Group AG, Deutsche Bank AG, UBS AG and Royal Bank of Canada agreed to provide the revolver, the person said.
Loan prices fell last week, with the Standard & Poor’s/LSTA U.S. Leveraged Loan 100 Index declining 0.17 cent to 89.38 cents on the dollar. Loans have returned 3.82 percent in 2010, based on the index, which tracks the 100 largest dollar-denominated first-lien leveraged loans.
Leveraged loans and junk bonds are typically rated below Baa3 by Moody’s Investors Service and lower than BBB- by S&P.
Corporate bond sales globally fell to $33.5 billion last week from $37.5 billion in the period ended Aug. 20, according to data compiled by Bloomberg.
Sara Lee, the maker of Ball Park hot dogs and Hillshire Farm meat products, plans to sell $800 million of bonds in a two-part offering as it seeks to repay debt maturing next year.
The company may sell 5- and 10-year notes as soon as today, according to a person familiar with the transaction, who declined to be identified as term aren’t set.
Proceeds will be used with cash on hand and commercial paper issuance to help fund a cash tender offer for notes due in 2011, the company said today in a prospectus that didn’t specify the size, timing or maturity of the sale.
Issuance in the U.S. may reach $125 billion in September as finance and utility companies seek to take advantage of the lowest borrowing costs on record, according to Aladdin Capital LLC. Companies have sold about $96 billion of dollar-denominated debt in August, approaching an Aug. 6 prediction from Aladdin that sales may reach $100 billion.
“Vacations are going to be over in a week or so, and I anticipate a monstrously huge slate of September issuance in particular,” Ron Quigley, head of fixed-income syndicate at Aladdin Capital in Stamford, Connecticut, said in an e-mailed note. “There is a ‘Poseidon Adventure’-type tidal wave in store for September and October.”
In Japan, Barclays plans to sell a mix of floating- and fixed-rate bonds due in three and five years, said a person familiar with talks who declined to be identified because the information is private. The sale, scheduled for Sept. 2, will be handled by Mizuho Securities Co., Nikko Cordial Securities Inc. and Barclays Capital Japan Ltd. Samurai bonds are yen- denominated notes sold in Japan by overseas borrowers.
Oracle, the world’s second-biggest software maker, Merck, the second-largest U.S. drugmaker, and Wal-Mart are among the best-performing investment-grade borrowers this month, Bank of America Merrill Lynch’s U.S. Corporate Master index data show. Bonds from Redwood City, California-based Oracle and Whitehouse Station, New Jersey-based Merck each gained 2.6 percent. Wal- Mart of Bentonville, Arkansas, returned 2.2 percent.
Investors are sticking with high-grade company bonds in a bet that businesses can withstand slower economic growth. The U.S. Commerce Department said Aug. 27 that the world’s largest economy decelerated to a 1.6 percent annual pace last quarter, from its initial estimate of 2.4 percent last month.
Non-financial companies are sitting on the highest percentage of cash to total assets in at least a decade, according to data compiled by Barclays Capital strategists. Median cash at more than 400 investment-grade borrowers reached 3.86 percent in the first quarter, up from 2.13 percent in the second quarter of 2008, the data show.
“While macroeconomic conditions are a concern, a moderate slowdown in economic growth should have a limited effect on credit spreads,” Barclays strategists Jeffrey Meli and Bradley Rogoff wrote in an Aug. 27 note to investors.
Bernanke said on Aug. 27 that the Fed’s purchases of Treasuries, agency debt and mortgage-backed securities have likely pushed investors into buying other assets with similar credit risk and maturities.
“Some investors who sold MBS to the Fed may have replaced them in their portfolios with longer-term, high-quality corporate bonds, depressing the yields on those assets as well,” he said at the Jackson Hole symposium.
Yields on Treasuries maturing in 10 years fell as low as 2.416 percent last week, approaching the record low of 2.053 in December 2008. The yield has dropped from this year’s high of 4 percent in April.
“I would not at this point run into the long end of the yield curve,” said Chad Morganlander, a Florham Park, New Jersey-based money manager at Stifel Nicolaus & Co., which oversees $90 billion. “It is a crowded trade on a short-term basis, so therefore, I would look at alternatives like gold as well as perhaps raising my exposure to cash.”