More M&A Could Be Signal to Get Out of High Grade: Q&A
(Bloomberg) -- Gene Tannuzzo, deputy global head of fixed income at Columbia Threadneedle Investments, says that investment-grade companies have relatively high cash levels, and if they start using that money for acquisitions or share buybacks, investors should consider cutting exposure to their bonds.
Tannuzzo, who helps manage some of Columbia Threadneedle’s roughly $193 billion in fixed income assets, spoke to Molly Smith on Jan. 5. Comments have been edited and condensed.
What do you make of all of the issuance to start the year?
The Covid situation isn’t perfect, but CFOs see that the capital markets are open, even if there’s some uncertainty about their near-term cash generation ability. Given that, and that investor demand is strong and companies can borrow at very low coupons, I would expect issuance to stay high. It seems hard to sustain last year’s pace, but it seems reasonable that issuance would be pretty elevated.
Read more in this week’s Credit Brief: M&A Debt Wave; JPMorgan Tops League Tables
Where are you looking to deploy capital?
In the scenario where we’re very bullish on the economy, how do we capture that in high yield? I don’t think it’s necessarily by going down the credit spectrum to CCCs, as 70% of them are trading above par. We like companies that have an upgrade catalyst, maybe some fallen angels that could go back, and find a longer duration bond in that space. If it has upgrade potential, it could tighten 50 plus basis points and there could be price appreciation.
What worries you most in the high-grade market?
Companies didn’t only lever up; they also just have more liquidity. And so if they ultimately use that to pay down debt, we’re in a happy place. But the longer the optimism goes on with the economic momentum, we could start to see that cash being used for share buybacks and M&A. And that’s really the catalyst where we’d be much more cautious on the investment-grade universe at these spread levels.
We’ve had a lot of M&A in the last few weeks. Are we there yet?
I don’t think two weeks is enough to make a trend, but we’ve been alert to the news flow and we’re questioning that. And if that two weeks turns into two months and then two quarters, that’s a concerning trend.
Pick your industry, whether food and beverage or energy, there are companies that are running a turn or two leverage higher than they normally would because they wanted that liquidity buffer. Everyone understood that, which is part of the reason they were able to issue like they did last year. But if we see those companies start to be more acquisitive, we would want to be more cautious because that’s a change to the thesis and one that I’m not sure we’re being paid for, given this level of spread and this type of duration.
How do you expect credit raters to react?
The rating agencies react more aggressively during the shocks. It will probably be company specific, but it could happen quickly. There are some big capital structures out there at leverage levels that would normally be high yield, but if you look at interest coverage, they’re still really good.
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