High-Yield Bond Sales Stumble in Europe and May Fall Further

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(Bloomberg) -- For leveraged borrowers hoping to tap the European bond market, February is proving to be the cruelest month. Sales of high-yield debt are falling fast -- and some investors expect the slowdown to continue.

Non-financial corporates have priced 7.1 billion euros-equivalent ($8.9 billion) of speculative-grade notes since the start of 2018, according to data compiled by Bloomberg, a 38 percent drop from the same period last year. The drop off follows a bumper year in 2017, which saw record corporate sales as rock-bottom interest rates fueled demand.

New issuance is likely to keep falling, said Marco Salcoacci, a portfolio manager at Frankfurt-based Union Investment Privatfonds GmbH, whose credit department manages high yield assets worth 2 billion euros. That’s partly because opportunistic issuance will fall as the cost of borrowing rises, "leaving us with the deals that need to be done." 

The Markit iTraxx Crossover index of credit-default swaps insuring speculative-grade company debt hit its highest level since April, in a sign that the volatility triggered by an equities sell-off in early February has caught up with the market. The cost of borrowing has also climbed, with average yields on high-yield bonds rising to 3.4 percent Wednesday, their highest since late April 2017 and up from as little as 2.8 percent three months ago, Bloomberg Barclays index data show.

"Issuers and syndicates are probably on a wait-and-see stance to see how risk appetite is developing," Union Investment’s Salcoacci said. And while volatility will likely remain, with risk premiums and coupons on the primary market set to rise, the portfolio manager said he was relaxed about it because of the benefits of higher coupons.

Supply, Demand

As well as an expected drop in opportunistic sales, some investors see leveraged borrowers opting for loans rather than note issuance -- potentially causing a further fall in bond volumes. Last month’s issuance of leveraged loans in Europe was the second busiest month since the financial crisis after November 2017.

January Leveraged Loan Issuance Tops 14 Billion Euros, Boosted by Jumbos

Would-be bond issuers are said to be looking that much harder at loans right now because that asset class is outperforming bonds, according to a London-based fund manager. Bond sales may be further suppressed when it comes to refinancing opportunities as sponsors turn to the loan market to take advantage of relatively tighter spreads and fund inflows.

Over on the demand side for bonds, global funds saw the fifth-largest week of redemptions ever in the week to Feb. 14, according to Bank of America Merrill Lynch, citing EPFR Global fund flow data. $14.1 billion was pulled from debt funds, with $10.9 billion taken from high-yield bonds alone, the second highest outflow on record.

Cracks Appear in Credit Funds as Investors Head for the Exit

Not All Bad

A debt syndicate manager at a London-based bank said it’s probably healthy that issuance has slowed after a bull run. The manager expects the market to widen gradually, meaning that both the buyers and sellers of debt would have to do a better job, with issuers having to pick their spots.

Nevertheless there is a pipeline of deals that need to be executed in the capital markets, including 1.05 billion euros of senior unsecured notes to support KKR & Co’s acquisition of Flora Food Group and a 445 million euro bridge facility for the take private of Refresco Group NV. That and the end of a weeklong school holiday in the U.K. may mean volumes pick up toward the end of the month.

“The new issue market has clearly tailed off significantly during the recent volatility,” said Thomas Hanson, a fund manager at Janus Henderson Global Investors, whose fixed income department manages more than $2 billion in high-yield assets. While there was an “air of caution” on the part of managers, Hanson said he was hearing of several deals in the background that were driven by leveraged buyouts and M&A activity.

©2018 Bloomberg L.P.

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