(Bloomberg) -- Europe’s high-yield market has sprung back to action this month with 6.0 billion euros equivalent ($7.3 billion) of new supply as borrowers of all shapes and sizes take advantage of a window for issuance. The potential for market volatility may soon close that window, however, with the European Central Bank set to signal how it’ll end quantitative easing in July.
"The threat of volatility is here to stay with many moving pieces on the economic and monetary policy front," said Kevin Foley, head of loan and high yield capital markets, EMEA at JPMorgan Chase Bank. "For issuers, the key remains preparing in advance so that they are in a position to take advantage of issuance windows."
The recent sales uptick is expected to continue into May, albeit at a slower pace, which should help boost volumes in a year that has so far underwhelmed. At 23.9 billion euros equivalent, issuance so far this year is 17 percent down on the same period of 2017. However, nearly a fifth of that priced in the last week alone, making it the busiest week for sales since Jan. 19, according to data compiled by Bloomberg.
Credit spreads are expected to widen materially from here, according to Uli Gerhard, a senior portfolio manager at Insight Investment, which manages $791 billion of assets. "But the conundrum that investors are facing now is that current valuations look attractive versus low default rates, yet we can all foresee a rate rise on the horizon so naturally investors are more cautious," Gerhard added.
Returns so far this year for high yield bonds are back in the black however at 0.41 percent, according to the Bloomberg Barclays Pan-European High Yield Index. This month option-adjusted spreads on the index have tightened by 25 basis points and yields have narrowed to 3.6 percent from a one-year wide point on April 4.
"After a period of weakness, which was largely sparked by trade tensions, fund flows are much more stable and have helped the high-yield market find its feet," said Tom Ross, a portfolio manager at Janus Henderson Investors, who manages $2.7 billion of assets. "And right now it seems at the moment that syndicates are very confident that they can get these deals done."
Pick and Choose
But while the market is open for business, investors are making it clear they are remaining disciplined, especially around tricky credits. Bonds and loans are generally clearing at wider levels than they would have back in January, according to JPMorgan’s Foley.
A deal that caught investors’ attention for its 8.5 percent coupon and backstory is Yell Bondco Plc. The company was created via a corporate reorganization at Hibu Group Ltd, which twice restructured its debt in 2014 and 2016. Oilfield services company CGG SA was another company returning to the market after restructuring its debt. The borrower sold $300 million and 280 million euros of bonds earlier in the month with 9 percent and 7.875 percent coupons, respectively.
"The market is wide open and difficult credits with a checkered past such as Yell are taking advantage of this," Insight Investment’s Gerhard said. "The deals in the market at the moment finally require more credit work, but one has to be selective and disciplined in this market."
Signs of investor discipline have have also been evidenced by push back on aggressive covenants. U.K. watchmaker Aurum Holdings Ltd was recently forced to sweeten a 265 million pound bond offering by removing the clause that would have allowed it to pay additional dividends to its owner Apollo Global Management LLC. Consequently, Aurum had to increase the yield to 8.5 percent from 7.5 percent.
"The most egregious language we’ve seen recently allowed a company to access the restricted payments basket in the period after a coupon should have been paid and the end of the grace period," Janus Henderson’s Ross said. "We pushed back on that in the Selecta deal and got the language changed."
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