Junk Debt ‘Best Bet’ as Issuance Nears Record: Credit Markets

Global high-yield bond sales are poised to exceed 2009’s record issuance as the riskiest companies take advantage of plunging borrowing costs and investor demand to refinance debt.

Ally Financial Inc., the lender previously known as GMAC Inc., and the lending arm of Ford Motor Co. led $206.9 billion of speculative-grade debt sales in 2010 through yesterday, compared with $208.1 billion for all of last year, according to data compiled by Bloomberg.

Junk-rated companies are accelerating issuance amid rating upgrades and average borrowing costs that have plummeted to 8.4 percent from a high of 21.6 percent in 2009, according to Bank of America Merrill Lynch index data. Investors are snapping up the debt to take advantage of returns that are beating those on investment-grade bonds, government securities and stocks.

“Companies have become a lot leaner and meaner, so the class of borrowers in the high-yield universe looks far better than ever before,” said Greg Saichin, head of emerging markets and high-yield at Pioneer Investment Management in Dublin, which manages 95.2 billion euros ($121 billion) of fixed-income assets worldwide. “Investors have a lot of cash to invest and are being forced to look further and further down the rating spectrum to boost returns.”

High-yield debt has returned 10.3 percent this year, including reinvested interest, compared with 7.8 percent on investment-grade bonds, 5.3 percent on government securities and a 2.8 percent loss on the MSCI World Index of stocks in 24 developed nations, Bank of America Merrill Lynch global index data show.

‘Best Bet’

“If you are looking for an eight to 10 percent return and want a reasonable chance of achieving that, high-yield is your best bet,” said Garland Hansmann, who helps manage more than 5 billion euros as a London-based portfolio manager for Intermediate Capital Group. “And investors can still get that even if the economy does get a little weaker.’”

Elsewhere in credit markets, the extra yield investors demand to own company bonds instead of similar-maturity government debt fell 1 basis point to 176 basis points, or 1.76 percentage point, according to Bank of America Merrill Lynch’s Global Broad Market Corporate index. Yields averaged 3.612 percent, up from 3.553 percent on Sept. 8.

Anglo Irish

The cost of credit-default swaps to insure Anglo Irish Bank Corp.’s subordinated bonds rose two days after Ireland’s government said the nationalized lender would be split into two.

Swaps protecting Anglo Irish’s riskier subordinated debt climbed 43 basis points to 1,780, according to data provider CMA. Credit swaps on European government bonds also rose on speculation more countries will be forced to stand behind their banking systems, while contracts linked to the region’s corporate debt was little changed.

Anglo Irish Chief Financial Officer Maarten van Eden said Sept. 8 that the bank had asked regulators for approval to buy back subordinated debt. The same day, Ireland Finance Minister Brian Lenihan said the lender will be divided into so-called good and bad banks after losing 20 billion euros ($25 billion) in two years as property loans soured in the recession.

Credit-default swaps on the Markit iTraxx Crossover Index of 50 mostly junk-rated European companies rose 1.3 basis points to 484.1 as of 11:45 a.m. in London, according to Markit Group Ltd. The cost of insuring senior financial company debt declined, with the Markit iTraxx Financial Index of 25 banks and insurers falling 2 basis points to 133.5, JPMorgan Chase & Co. prices show.

Sovereign Swaps

Default swaps to protect Ireland’s government debt rose 9 basis points to 385, according to CMA. Contracts linked to Greece’s bonds added 4 basis points to 893, swaps tied to Spanish debt climbed 4 basis points to 232, Italy rose 3 basis points to 206 and Portugal increased 2 basis points to 336, CMA prices show.

Credit-default swaps generally fall when credit quality improves and rise when it deteriorates. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements. A basis point on a swap protecting $10 million of debt for five years is equivalent to $1,000 a year.

Valeant Pharmaceuticals International, the U.S. company merging with Canadian drugmaker Biovail Corp., reduced the amount of loans it’s seeking to finance the transaction and to fund a dividend to $1.875 billion from $3.02 billion, according to a person familiar with the terms who declined to be identified because the talks are private.

The reduction follows the Aliso Viejo, California-based company’s decision to sell $1 billion in senior unsecured notes.

The Standard & Poor’s/LSTA U.S. Leveraged Loan 100 Index rose 0.04 cent to 89.57 cents on the dollar.

Junk Bond Returns

The 4.9 percent return of junk bonds this quarter is smaller than the 2.7 percent gain of investment-grade corporate bonds and government debt’s 1.5 percent advance. Global stocks have risen 9.2 percent. High-yield or junk debt is rated below Baa3 by Moody’s Investors Service and BBB- by S&P.

Junk-rated companies in the U.S. issued $2.8 billion of debt this week, the most since the period ended Aug. 13, Bloomberg data show. Linn Energy LLC, the biggest publicly traded U.S. oil and gas partnership, and Richardson, Texas-based MetroPCS Communications Inc., sold debt after increasing the size of their offerings.

Five-Fold

Total U.S. issuance rose more than five-fold to $38.4 billion from $7.2 billion last week, the most since the five days ended Aug. 6, Bloomberg data show.

Moody’s and S&P are on pace to raise ratings on more high- yield companies than they downgrade for a fourth consecutive quarter, which hasn’t happened since at least 2000, Bloomberg data show.

Spreads on junk bonds narrowed 12 basis points to 648 basis points yesterday, up from the year’s low of 554 basis points on April 26, according to Bank of America Merrill Lynch’s Global High Yield Index.

“At this kind of yield advantage over Treasuries, you’re more than getting compensated for the level of defaults,” said Anthony Valeri, a market strategist in San Diego at LPL Financial Corp., which oversees about $277 billion of assets and is buying high-yield debt.

U.S. Issuance

In the U.S., junk-rated borrowers have sold $162.4 billion of debt this year, just shy of the 2009 record of $162.7 billion, Bloomberg data show. Reynolds Group Holdings Ltd., the maker of Reynolds Wrap aluminum foil, and GenOn Energy, the power producer being formed by the merger of Mirant Corp. and RRI Energy Inc., are among companies marketing at least $8.15 billion of high-yield debt.

Bank of America Merrill Lynch raised its global forecast for junk-bond sales this year to $240 billion from $210 billion, strategists said in a Sept. 1 report.

“All indications are for a strong start to September, with volumes to reach $20 billion and possibly even higher,” Oleg Melentyev, a credit strategist at Bank of America Merrill Lynch Global Research in New York, said in a telephone interview.

Ally Financial, based in Detroit, has sold $5.65 billion of bonds this year through offerings in February, March and September, citing debt repayment as a possible use of proceeds, Bloomberg data show.

Ford Debt

Ford Motor Credit Co., the financing arm of the second- largest U.S. automaker and the biggest issuer of junk debt in 2009, has sold $3.5 billion of bonds this year, the data show.

Junk-rated companies are mostly using debt offerings to refinance outstanding bonds or bank loans, rather than to create new debt, Melentyev said.

“A lot of issuers are utilizing the liquidity of the bond market where they traditionally would have taken certain transactions to the loan market,” Tim Hartzell, a managing director in leveraged finance syndicate at Barclays Capital in New York.

European companies have issued more than 31 billion euros of junk-rated debt in the region this year, compared with 32 billion euros in all of 2009, according to Bloomberg data.

Pernod-Ricard SA, the maker of Absolut vodka and Chivas Regal Whiskey, and Ziggo, the Dutch cable television operator, are the largest corporate issuers of junk bonds in Europe this year.

“We think you’re going to continue to see a robust calendar,” Hartzell said. “You may not see the kind of $30 billion-plus months that we were having in March and April, but it’s likely that the $20-plus billion sort of levels will continue through the last third of the year.”