Junk rally leaves investors cautious at Miami bash
Investors and bond issuers gathered in Miami this week for JP Morgan’s annual high-yield bond and leveraged finance conference following a rip-roaring start to the year, but the mood among investors was cautious.
The main worry among bondbuyers that spoke to IFR on the sidelines of the event is that the economy will slow, or even enter recession, and that corporate earnings will deteriorate and cashflows worsen.
“Macro economic sessions at Miami were the best attended, said one fund manager. “That’s usually an indicator that people are worried about the health of the economy.”
But that mood belies the market reality currently in play.
Average spreads on US high-yield have rallied 139bp since the start of the year, helping generate returns of 6.29%, according to ICE BAML data.
JP Morgan subsequently bumped up total return forecasts for the year to 10.5% from 6.25% before the snap-back in spreads.
“GDP growth will remain strong enough to keep credit conditions stable, default rates low, interest rates only mildly higher, and most importantly, the Fed on the sideline,” JP Morgan analysts wrote.
“This adds up to a Goldilocks scenario for US corporate credit.”
Yet, even with that backdrop, investors at the Miami event still were less upbeat.
“We think it’s probably gone too far too fast, and there’s some expectation of retracement,” said Ken Monaghan, co-director of high-yield at Amundi Pioneer. He believes the economic outlook is finely balanced.
“Being overly aggressive in this kind of environment isn’t going to pay off.”
PRIMARY CRANKING OPEN
Investors said company presentations at the event did not set off any particular alarm bells. But few talked about improving their balance sheet and lowering leverage - a big topic in the investment grade market.
“Everyone is keeping leverage in a range,” said a fund manager. “Debt is still cheap and the markets are open.”
Indeed, the primary market has rebounded as conditions have improved, following a roughly six-week shutdown late last year.
Following three straight no-deal days, six new trades are due to price Thursday and the pipeline includes a large financing in loans and bonds to finance the buyout of Johnson Controls’ Power Solutions by Brookfield Business Partners.
The bonds have been upsized to include over US$2bn of secured bond in dollars and euros, and US$2bn in unsecured bonds, a banker involved in the deal told IFR. The bonds will likely have ratings in the Single B band, the banker said. nRLP84686a
Still, the riskiest end of the high yield spectrum, Triple C bonds, has lagged the rally which Bank of America Merrill Lynch analysts say is due to macro uncertainty. JP Morgan data showed Thursday that Triple C bonds have returned 6.23% in the year-to-date, compared with 6.55% for Single B.
“The high yield primary market is back to somewhat normal. But there’s still a lot of hesitation on the riskiest stuff,” said a credit analyst at the JP Morgan event.
Of the US$34.395b of high-yield bonds issued this year, just US$3.635bn from four issuers has been rated Triple C, according to IFR data.
But the rally has at least made banks more willing to underwrite again after pulling back from risk a couple of months back, several people told IFR.
JP Morgan raised its forecast for net high yield volume by US$40bn to US$140bn last week, on the back of a more dovish Fed and greater preference for bonds over leveraged loans. That is around double the US$73bn of net issuance last year, the bank said.
And some bond buyers say the fundamentals of the market remain healthy.
“The price action during the sell off was not, in our opinion, reflective of any fundamental deterioration in the issuers which continue to exhibit strong earnings and cash flows,” said Rob Zable, senior portfolio manager for GSO’s US CLOs.
Doug Logigian, head of capital markets at GSO, said it didn’t help that volatility happened at the tail end of the year when liquidity can be sparse and many traders are taking vacations.
“For every loan that GSO sold, we bought three times that many during the same period and put a few billion dollars to work during that time,” said Logigian.