European High Yield Bond Spreads Return to Lows

SpreadsChart

 If your company qualifies for raising high yield debt, the European market may be a receptive market.

The spreads on European high yield debt are approaching the lows seen before the financial turmoil in 2008.

This may prompt European companies which had pursued a conservative strategy over the last 5 years to become more expansive with the availability of lower cost capital.

Similarly, low cost capital may spark an increase in acquisitions by both companies and private equity groups.

Click here to go to the website of the Federal Reserve Bank of St. Louis for background on the BofA Merrill Lynch data.

Flood of Corporate Bonds

Dennis McCarthy – (213) 222-8260 – dennis@monarchbayassociates.com

Right now, corporations are raising capital in record amounts by selling high grade bonds.

Can you blame them?  High grade corporate bonds are priced today at record low interest rates.

Even at these record low yields, investors are buying corporate high grade bonds in large volumes.

Investors are seeking interest rates that offer positive yields over inflation. 

The traditional source of yield for many investors, US Treasuries, seems no longer attractive.

 So, what’s the take-away here. 

You should at least consider raising capital through issuing corporate bonds if your company could rationally raise debt of roughly $100 million or more.

Contact me to discuss raising debt to capture this opportunity, or any capital market topic. 

www.lockinlowrate.com

 

Interest Rate Risk – “Preaching to the Choir”

Dennis McCarthy – (213) 222-8260 – dennismccarthy@ariesmgmt.com

“Preaching to the choir”.  In this case, the choir is me.  It seems that every commercial banker I meet, tells me to advise my clients, or anyone who’ll listen, to lock in today’s low interest rates.

When I ask, “what’s the risk?”, I get a lecture that we’re in an interest rate bubble and that despite the Fed’s announcement about the Fed Funds rate, business loan rates will likely rise, especially after the election.

When I confess that I not only believe them but share their concern, I ask “what should a company do to lock in these low rates?” 

Since most companies have floating rate business loans, the bankers’ most common recommendation is to enter into a swap arrangement to fix the rate.

The cost of the swap, especially after tax, is considered very low cost insurance relative to the risk of a rise in interest rates.

A swap is not the only way, however.  Some bankers recommended fixed rate term loans or even public bond issues if the financing is large enough. 

One of my clients raised its first high yield bond last week so I’m doing my best to help companies to reduce interest rate risk.  My banker friends would be pleased that their preaching paid off.

I can help your company to lock in low current interest rates.  Please contact me.  Thank you.

Visual Interest Rate History

On Youtube, next to my posts about interest rate risk such as “Behind the Headlines on Interest Rates” were a series of videos which visually chronicle the history of US Treasury interest rates along the maturity curve for the last 50 years with commentary by Dr. Donald R. van Deventer, founder of Kamakura Corporation. Displayed above is one of the videos entitled, “50 Years of Forward Rate Movements”.

In a great example of a picture is worth a thousand words, or in this case, 12,300 days of data, one can quickly sense (i) historical levels of benchmark US Treasury interest rates, (ii) the variations from the expected or classical term rate structure (which is more common than one would think), and (iii) the amazing volatility in benchmark US Treasury rates.

As my post “Behind the Headlines on Interest Rates” explains, there’s more to what a company pays in interest rates than just the benchmark US Treasury rates but this reveals the variability in those benchmarks themselves.

My thanks to Kamakura Corporation for creating these videos.  The company’s Youtube channel is www.youtube.com/user/kamakuracorporation and its website is www.kamakuraco.com.

Behind The Headlines On Interest Rates

 

The Federal Reserve announced that economic factors “are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014.”

This will, no doubt, influence interest rates through this period, but this is not the sole determinant of a company’s interest rate as noted in my post “Seems Smart Now“.

For example, the debt market for corporations, both large and small, is influenced by supply and demand factors in addition to the benchmark federal funds rate.  The predicted reduction in demand for corporate debt by collateralized loan obligation (CLO) funds suggests that companies may see higher new issue interest rates.  In contrast, any increase in demand by other lenders such as high yield bond and “relative value” investors may ease rates.

The recent post, “No Loan Left Behind“, by Randy Schwimmer of Churchill Middle Market Finance, now a unit of The Carlyle Group, describes these supply and demand forces at work on the larger size loan market (size above $100 million).

To support Randy’s view that high yield investors are supplying critical demand, this week one of my clients successfully priced its first high yield bond replacing other financing sources.

My message is that while Fed action gets the headlines, there are several other factors at work, behind the headlines, which influence a company’s debt rate.

Dennis McCarthy

(213) 222-8260

dennismccarthy@ariesmgmt.com

Short-term Debt Seems Smart Now

dennismccarthy@ariesmgmt.com

(213) 222-8260

With short-term interest rates at historically low levels, many small cap companies are funding all their capital needs with short-term debt.

Can you blame them?  Small cap companies are borrowing at 2 to 3% floating rates or a bit more if swapped to fixed rates.

Yes, it is a short maturity, one to three years, but the lenders will extend it when due.  They said they would.

 Yes, we all know that old maxim, fund long-term assets with long-term capital but companies are saving so much in interest by borrowing short-term.

What’s the risk, anyway? If rates start to rise, companies can refinance with long-term capital then.

I hear this a lot.  It worries me.  

Interest rates may rise unexpectedly and fast.  When the time comes to lock in long-term capital, there’ll likely be a rush to refinance.

First,  who lends for 5 to 10 years – insurance companies, specialty lenders, the public bond market?

There are limits to how much and how fast these markets can absorb new debt.

Second, what will happen to interest rates?  Spreads on corporate debt have already widened since this summer.  What do you think will happen to interest rates when there’s a rush to refinance?

I’ve been encouraging small cap companies to be prudent, to borrow some capital long-term.  Create a relationship with the long-term debt market now, before the rush.

In the rush to refinance, you’ll want your company to be the first in line because your company is already a known participant in the long-term debt market. 

Now, that’s a smart move.

Please contact me to discuss this or any of my posts. Thank you.