Month: January 2018

30 Jan 2018

Q4 2017 High Yield Commentary

During the fourth quarter of 2017, albeit at a slower pace, the High Yield Market continued the positive return trend of the first three quarters. The Bloomberg Barclays US Corporate High Yield Index return was 0.47% for the fourth quarter. For the year, the Index returned 7.50% which leads many asset classes in the fixed income world. The lowest quality cohort, CCC rated securities and lower, once again outperformed their higher quality counterparts. The widely observed reach for yield continues unabated with highest risk, Ca‐D, followed by Caa‐rated bonds returning 13.76% and 10.38%, respectively, the highest returns of all high yield rating categories1 . It is important to note that during 2008 and 2015, the lowest quality cohort of CCC rated securities recorded negative returns of 49.53% and 12.11%, respectively. We highlight these returns to point out that with outsized positive returns come outsized possible losses, and the volatility of the CCC rated cohort may not be appropriate for many clients’ risk profile and tolerance levels.

While the 10 year US Treasury finished the quarter and year essentially where it started, the 5 year US Treasury was noticeably higher on the quarter and year. The 5 and 10 year US Treasury ended 2016 at 1.928% and 2.447%, ended 3Q17 at 1.920% and 2.327% and finished 2017 at 2.210% and 2.411%, respectively. Offsetting the 29 basis point higher 5 year US Treasury during the fourth quarter was 3 basis points of tightening of spreads in the high yield index, suggesting much of the return was attributed to coupons. For the year however, the 28 basis point rise in the 5yr US Treasury was more than offset with 66 basis points of tightening in spread. While high yield spreads (343 basis points at year end) continue to grind tighter toward the multi‐year low of 323 basis points reached in 2014, it is still a ways off from the 233 basis points reached in 20071,2. Each quality cohort behaved in a similar fashion.

For the year, the U.S. High Yield Index generated a total return of 7.50% leading many other fixed income markets. This compares to a 10‐year U.S. Treasury return of 2.14%. Also, the Investment Grade Corporate Bond Index return was 6.42% with spreads tightening 30 bps over the year 1.

To consider the high yield performance in a broader context, a comparison to the total returns of other major asset classes is in this chart. (The returns may differ slightly due to the publisher’s selection of indices.) Equities delivered spectacular returns. Riskier classes outperformed, while the least risky asset classes lagged. Omitted is the frequently overlooked performance of gold, which rallied 14% in 20174. Intensifying geopolitical risks may be the catalyst. North Korea’s unbridled nuclear ambitions and Iran’s similar pursuits, as recently exemplified in its test launches of medium range ballistic missiles, are grave concerns. Both paths are troubling: forcing a change in behavior may be achieved only through armed conflict and the development of nuclear arsenals by these two rogue regimes and how they might eventually be deployed in light of their rhetoric is unimaginable. Considering the importance to the proper functioning of the global economy of oil exports from the Middle East, the threat of political instability and armed conflict is a major factor driving investment behavior.

Industry sector analysis reveals the top three 2017 performers in descending order were utilities, chemicals and gaming/leisure. The worst performer was retail followed by telecommunications and then consumer products (source: JP Morgan 1/2/18).

Moody’s reports that 18% of rated debt of retailers is rated Caa and lower, exceeding that during the “great recession” of 2007 – 2009. They estimate the speculative grade default rate of retailers to peak at 10.5% in March 2018, up from 8.9% at year‐end 2017 5. High profile retailers, Toys‐R‐Us filed in October and Sears Canada filed in December. Very weak retailers include luxury retailer Neiman Marcus, Sears Holdings and JC Penny. The seminal shift to online retailing will continue to cause disruptions across the “brick and mortar” retailing industry and related real estate industry.

High yield issuance (excluding emerging markets) continued to be fairly robust at $282.4 billion across 525 deals, versus $226.8 billion across 359 deals in 2016. For the third quarter, issuance by broad rating category was essentially divvied up in line by market size of each broad rating category. Issuance from emerging markets based entities added $81.7 billion and 147 more deals. This was up significantly from 2016’s emerging markets’ $46.2 billion across 75 deals. The largest deals included $3.25 billion by Valeant Pharmaceuticals, $1.5 billion by Hilton Worldwide Holdings, $2.2 billion by Community Health Systems and $1.25 billion by Equinix 6. Most dealers interviewed by Prospect News expect high yield issuance to increase in 2018.

Even with the Federal Reserve’s third 0.25% rate increase in the Federal Funds Target Rate on December 13, yields on intermediate Treasuries are slightly changed with the 10‐year Treasury at 2.41% at the end of 2017, roughly flat from 2.44% at the beginning of the year 7. The 10 year Treasury was the “pivot point” as the yield curve flattened as the FED raised the Fed Funds Target Rate with the 30‐year bond yield falling from 3.07% to 2.74%, while the 2‐year note yield climbed from 1.19% to 1.88% and the 5‐year note rose from 1.93% to 2.21% 8.

Intermediate term yields more often reflect GDP and expectations for future economic growth and inflation rather than actions taken by the FOMC to adjust the Target Rate. Although the revised third quarter GDP print was 3.2% following the second quarter’s 3.1%, the consensus view of economists reported in The Wall Street Journal, forecasts a GDP of 2.7% for 2018 up from 2% at the end of September ( with Wall Street Journal’s consensus estimate of economists 12/1/2017 inflation expectations at 2.2% for 2018). It is easy to understand that the “search for yield” that we have witnessed continues and that the high yield market is benefitting from that search.

Top of mind for bond investors is the tax bill recently signed into law. S&P’s analysis concludes, “the details of the proposal suggest the legislation will be a positive for overall credit quality, although less so for highly

leveraged speculative‐grade issuers”9.
The recently signed tax bill has significant changes that affect corporate earnings. The major elements impacting the majority of high yield issuers are: 1. The decline in the income tax rate from 35% to 21%, 2. The interest expense deductibility limit of 30% of adjusted taxable income (defined as EBITDA through 2021 and EBIT thereafter) and 3. The full expensing of qualifying capital expenditures. The chart to the left by S&P estimates that the new tax bill will have at most just slightly negative impact on companies with lower interest coverage ratios (those with more debt), “as the negative effect of lower interest deductibility would offset the positive effect of lower tax rates and the full expensing of capital expenditures” 10.

The chart below on the left shows the percentage of investment grade and high yield issuers impacted to any degree by the new law’s limit on interest expense deductibility. Logically, a larger proportion of high yield companies are impacted, however, the impact in most cases is entirely manageable, as the chart above illustrates. Also, the percentage of high yield companies adversely impacted increases after 2021 with the change in the definition from EBITDA to EBIT, as shown in the chart below on the left. Furthermore, the chart below on the right shows the percentage of rated companies impacted by leverage ratio. The higher the leverage ratio, the greater the number of companies impacted.

Being a more conservative asset manager, Cincinnati Asset Management remains significantly concentrated in less leveraged high yield companies. We limit our purchases to those companies rated single‐B or better, so we are underweight CCC and lower rated securities. So the changes in the tax law will have less of an impact on our portfolios than those of the broader high yield market, in which approximately 15% are rated CCC and lower11. This underweight contributed to our High Yield Composite performance lagging the return of the Bloomberg Barclays US Corporate High Yield Index (6.86% gross versus 7.50%) in 2017. Over the year, we continued to be cautious in our investment strategy, maintaining higher cash balances as we become more selective in our security purchases. Given the positive market performance, these cash balances served as a drag on our performance.

The Bloomberg Barclays US Corporate High Yield Index ended 2017 with a yield of 5.72%. This yield is an average that is barbelled by the CCC and lower rated cohort yielding about 8.5% and a BB rated cohort yielding about 4.4% 12. These yields are being earned in an environment that is fairly attractive. S&P forecasts that the trailing 12‐month default rate of 3.0% as of 12/31/17 will fall to 2.7% by September 2018, significantly below the 36‐year historical average of 4.1%. S&P also observed that “nearly all market‐based measures of future default pressure are now at benign levels” 13. Due to the higher income available in the High Yield market, it is still an area of select opportunity relative to other fixed income products.

The continued tightening of credit spreads needs to be carefully monitored to evaluate that the given compensation for the perceived level of risk remains appropriate on a security by security basis. It is important to focus on credit research and buy bonds of corporations that can withstand economic headwinds and also enjoy improved credit metrics in a stable to improving economy. As always, we will continue our search for value and adjust positions as we uncover compelling situations.

This information is intended solely to report on investment strategies identified by Cincinnati Asset Management. Opinions and estimates offered constitute our judgment and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. This material is not intended as an offer or solicitation to buy, hold or sell any financial instrument. Fixed income securities may be sensitive to prevailing interest rates. When rates rise the value generally declines. Past performance is not a guarantee of future results. Gross of advisory fee performance does not reflect the deduction of investment advisory fees. Our advisory fees are disclosed in Form ADV Part 2A. Accounts managed through brokerage firm programs usually will include additional fees. Returns are calculated monthly in U.S. dollars and include reinvestment of dividends and interest. The index is unmanaged and does not take into account fees, expenses, and transaction costs. It is shown for comparative purposes and is based on information generally available to the public from sources believed to be reliable. No representation is made to its accuracy or completeness.

1.Bloomberg, Bloomberg Barclays Indices

2.Wall Street Journal historical US Treasury rates

3.Credit Sights 1/1/2018

4.Wall Street Journal 1/2/2018

5. Moody’s Investor Service, U. S. Retail, Apparel, Restaurants:2018 Outlook 12/14/2017

6.The Prospect News, High Yield Daily 1/2/2018 Bloomberg Barclay’s Indices Statistics


8.S&P Global Ratings, U.S. Tax Reform: An Overall (But Uneven) Benefit For U.S. Corporate Credit Quality

9. S&P Global Ratings, U.S. Tax Reform: An Overall (But Uneven) Benefit for U.S. Corporate Credit Quality 12/18/2018

10. ibid
11. Bloomberg Barclays
12. ibid
13. S&P Global Ratings 11/14/2017

30 Jan 2018

Q4 2017 Investment Grade Commentary

As the fourth quarter of 2017 came to a close, investment grade corporate bond spreads narrowed to the tightest levels of the year, and the lowest since 2007i. The Bloomberg Barclays US IG Corporate Bond Index OAS started the year at 1.22% and finished at 0.93%, which means that, on balance, credit spreads for the index tightened 29 basis points throughout 2017. During 2017, BBB credit spreads tightened more than single‐A spreads by 8 basis points. BBB spreads tightened 36 basis points in 2017, after starting the year at 1.60% and finishing at 1.24%, while A‐rated spreads tightened 28 basis points after starting the year at 1.01% and finishing at 0.73%.

At CAM, our market reconnaissance, observance and experience told us that the insatiable demand for yield and income by both foreign and domestic investors drove the 2017 outperformance of lower quality investment grade credit relative to higher quality investment grade credit. Additionally, the composition of the investment grade universe has changed since the financial crisis ‐‐ in 2007, less than 35% of the Bloomberg Barclays US Corporate Index was BBB‐rated, while today nearly 50% of said index is BBB‐rated.

Source: Barclays Bank PLC

At CAM, we believe that now, more than ever, it is prudent for us to populate our portfolios with credits that we believe have the durability and financial strength to make it through a downturn in the credit markets. We continue to limit our exposure to BBB‐rated credits at 30%, a significant underweight relative to an IG universe where nearly 50% of credits are BBB‐rated. We are focusing on sectors that we believe will behave more defensively if the credit cycle turns, or if spreads go wider. For example, we would rather forego a modest amount of yield and purchase a single‐A rated regulated utility operating company as opposed to a single‐A industrial with cyclical end markets. We continue to take appropriate risks within the BBB‐rated portion of our portfolios, but only if the individual credit is trading at a level that provides appropriate compensation for the risks. We intend to maintain a significant relative overweight to EETC airline bonds, which are highly rated bonds that are fully secured and offer excess compensation relative to what we are finding elsewhere in the market. As always, we are diligent in screening for and avoiding credits that are at risk for shareholder activism, as we attempt to steer clear of situations where shareholders are rewarded at the expense of bondholders. Simply put, we are loath to change our conservative philosophy against the backdrop of exuberant credit markets. The principal decision makers on our investment grade team measure their experience in decades, not years, so we have seen the cycles come and go. Thus, we believe skepticism and caution are the prudent courses of action, and our portfolios will be positioned accordingly. We believe our core differentiator is our credit research and bottom up process that allows us to populate our portfolios with individual credits with a goal of achieving superior risk adjusted returns over the longer term.

The passage of a sweeping tax bill has generated some inquiry from our clients who would like to know what impact tax reform may have on the credit markets in 2018 and beyond. For investment grade corporate credit, we believe the impact will be relatively muted. There are two issues that could affect credit markets, interest deductibility and repatriation. Interest paid on debt is tax deductible, so as the corporate tax rate is lowered from 35% to 21% it makes debt issuance somewhat less attractive due to a lower overall tax burden. As far as repatriation is concerned, the repatriation tax rate on liquid assets held offshore will fall from 35% to 15.5%, so it is likely that some companies will bring some offshore cash back to the U.S. but we expect only a modest impact on investment grade credit. Of the $1.4 trillion that is held offshore by non‐financial U.S. companies, over 42% of that cash is controlled by just 5 large technology companiesii. While some companies will repatriate cash to pay down debt or to avoid taking on more debt, there will be others that repatriate cash for shareholder rewards and for M&A. Overall, we believe that tax reform will have a very modest impact on investment grade credit and that effect is most likely to be felt in 2018 investment grade new issuance. 2017 was a robust year for corporate bond issuance, with $1.327 trillion in gross issuance, 1% less than the amount of issuance that came to market in 2016iii. Even if tax reform does incent some companies to issue fewer bonds, the M&A pipeline remains robust with pending deals and potential deals, so we at CAM are expecting an issuance figure similar to the last two calendar years.

2018 should be another interesting year at the Federal Reserve. Jerome Powell will be the next Chair of the Federal Reserve, pending a confirmation vote by the full Senate. There is some belief that the Fed may turn more hawkish in 2018, as inflation is slowly creeping back into the picture and the labor market is showing signs of tightening, though wage growth remains relatively subduediv. The Fed continues to target three rate hikes in 2018, but what does this mean for the corporate bond market?v Though the first Fed rate hike of the current cycle occurred in December of 2015, the impact on the 10yr treasury has been relatively muted compared to the front end of the yield curve.

In 2017 we experienced a flattening of the treasury curve. The 5/10 treasury curve started the year at a spread of 51 basis points and ended 2017 at 20 basis points. It is important to note that, even if the treasury curve were to flatten completely, or even invert, there would still be a corporate credit curve that would afford extra compensation to investors for owning 10yr corporate bonds in lieu of 5yr corporate bonds. Corporate bond investors are compensated for two risks; interest rate risk and credit risk. In our experience, investors spend a large portion of their time focusing on the risk they can’t control ‐ interest rate risk, and very little time on the risk that can be controlled – credit risk. We as a manager believe that we can provide the most value in terms of assessing credit risk. In our view, the key to earning a positive return over the long‐term is not dependent on the path of interest rates but a function of: (1) time (a horizon of at least 5 years), (2) an upward sloping yield curve (not only the treasury curve but also the credit curve) ‐ to roll down the yield curve, and (3) avoiding credit events that result in permanent impairment of capital. Understanding and assessing credit risk is at the core of what Cincinnati Asset Management has provided their clients for nearly 29 years.

This information is intended solely to report on investment strategies identified by Cincinnati Asset Management. Opinions and estimates offered constitute our judgment and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. This material is not intended as an offer or solicitation to buy, hold or sell any financial instrument. Fixed income securities may be sensitive to

prevailing interest rates. When rates rise the value generally declines. Past performance is not a guarantee of future results. Gross of advisory fee performance does not reflect the deduction of investment advisory fees. Our advisory fees are disclosed in Form ADV Part 2A. Accounts managed through brokerage firm programs usually will include additional fees. Returns are calculated monthly in U.S. dollars and include reinvestment of dividends and interest. The index is unmanaged and does not take into account fees, expenses, and transaction costs. It is shown for comparative purposes and is based on information generally available to the public from sources believed to be reliable. No representation is made to its accuracy or completeness.

i Bloomberg December 27, 2017 “Surging Demand Sends Investment‐Grade Bond Spread to 2007 Levels”
ii Moody’s Investor Service November 20, 2017 “Corporate cash to rise 5% in 2017; top five cash holders remain tech companies”
iii Bloomberg December 14, 2017 “Investment Grade Issuance Total for December 14, 2017”
iv Federal Reserve Bank of Atlanta December 26, 2017 “Wage Growth Tracker”
v Bloomberg Markets December 13, 2017 “Fed Raises Rates, Eyes Three 2018 Hikes as Yellen Era Nears End”

26 Jan 2018

High Yield Weekly 01/26/2018

Fund Flows & Issuance:  According to a Wells Fargo report, flows week to date were -$1.3 billion and year to date flows stand at -$0.3 billion.  New issuance for the week was $7.5 billion and year to date HY is at $18.6 billion, which is up 16% over the same period last year. 


(Bloomberg)  High Yield Market

  • Issuance kicked off the week with T-Mobile driving by with $2.5b 2-part senior notes offering and pricing at the tight end of talk; received orders of more than $5.5b
  • Recent new issues have been seeing big orders
    • Extraction Oil & Gas saw orders of more than $2b, that is, 4 times the size of the original offering
    • IRB Holding priced at the tight end of talk to fund the buyout of Buffalo Wild Wings, with orders of ~$1.5b
    • Earlier, Noble Holding got orders more than $2b and increased the size of the offering to $750m from $500; Olin Corp saw orders of more than $2b; and Nabors Industries about $3b, 5 times the size of the offering
  • Strong equities with stocks setting new highs, and oil near 37-mo. high bolster junk bonds leading to lower risk premium
  • High yield continued to be backed by an overall supportive environment: Moody’s Liquidity Stress Indicator kicked off 2018 with a new low of 2.5%, suggesting junk issuers were backed by steady economic growth and buoyant credit markets as investors scramble for yield
  • Corporate default rates declined, another critical factor for high yield
  • Steady economy, declining default rates, low volatility, steady oil prices and stocks augur well for high yield


(PR Newswire)  Steel Dynamics Reports Financial Results

  • Company records for 2017: company-wide safety performance, steel shipments of 9.7 million tons, net sales of $9.5 billion, operating income of $1.1 billion, and EBITDA of $1.4 billion
  • “The performance of the entire Steel Dynamics team was exceptional this year,” said Mark D. Millett, President and Chief Executive Officer.  “We performed at the top of our industry, both operationally and financially, and most importantly, we did it safely.  Based on our strong cash flow generation from operations of $740 millionin 2017, we maintained near-record liquidity of over $2.2 billion, while simultaneously investing in our company through organic growth, a sustained positive dividend profile and the continuation of our share repurchase program.  We have a firm foundation for our continued growth.”
  • “In spite of the continuation of elevated levels of steel imports, which were over 15 percent higher than in 2016,” continued Millett, “the domestic steel industry benefited in 2017 from an improvement in underlying demand, as the automotive sector remained strong, and the construction and energy sectors continued to improve.  Our steel operations achieved record annual operating income of $1.1 billion.  Supported by improved domestic steel utilization, the metals recycling team maintained volume, increased metal spread and reduced costs throughout the year.”


(Reuters)  Advisory group ISS recommends that Cineworld investors oppose Regal deal

  • Influential advisory group Institutional Shareholder Services has recommended that investors in Cineworld oppose the company’s $3.6 billion reverse takeover of U.S. rival Regal Entertainment.
  • ISS told clients in a report that a vote against the deal and its associated rights issue “is warranted based on the significant financial and operation risks related to the transaction.”


(Politico)  Trump nominee Powell overwhelmingly confirmed as Fed chair

  • The Senate on Tuesday confirmed Jerome Powell, the president’s pick to chair the world’s most important central bank, in a bipartisan 84-13 vote.
  • But the Fed might not be radically different with Powell at the helm. The Fed under Powell will likely continue its path of steady interest rate increases — three are projected for 2018 — and cautious removal of its decade long extraordinary support for the U.S. economy.
  • Powell joined the Fed board in 2012 as an Obama appointee, and since then he has worked with Yellen and her predecessor, Ben Bernanke, to craft the central bank’s monetary and regulatory policy in the wake of the 2008 financial crisis.
  • “The best way to sustain the recovery, I believe, is to continue on this path of gradual interest rate increases,” Powell said at his confirmation hearing in November.
  • Powell will probably be more interested in specific regulatory policy details than any Fed chair in history, making his relationship with newly minted Fed regulatory czar Randal Quarles a key one. Powell and Quarles are good friends who have known each other for decades, but Quarles seems slightly more inclined to loosen regulation than his soon-to-be boss.
26 Jan 2018

Investment Grade Weekly 01/26/2018

Fund Flows & Issuance: According to Wells Fargo, IG fund flows for the week of January 18-January 24 were $3.6 billion, the second largest in the last 2 months. This comes on the heels of a $5.1 billion inflow the week prior, which was the largest in the past 3 months. Note that these are total flows across four investment strategies: Short, Intermediate, Long and Total Return. Per Bloomberg, investment grade corporate issuance for the week through January 25 was a meager $7.55bln. As of Friday morning, there are two small financial deals pending, but it looks as though we will close the week with less than $10b in issuance. The dearth of issuance is due to earnings season and the primary market should resurrect over the course of the next several weeks. As we go to print, the Bloomberg Barclays US IG Corporate Bond Index is trading at an OAS of 88, relative to the 2017 tight of 93.


(LA Times) Burger King ad explains net neutrality with flame-grilled Whoppers

  • Burger King is delivering its own hot take on the net neutrality showdown that has enflamed the U.S., using flame-grilled Whoppers.
  • Burger King’s new ad has become a sensation, with more than a million views on YouTube and it’s lighting up Twitter.
  • Net neutrality is the principle that internet providers treat all web traffic equally, and it’s pretty much how the internet has worked since its creation.
  • The Federal Communications Commission last month repealed the Obama-era rules, giving internet service providers such as Verizon, Comcast and AT&T permission to slow or block websites and apps as they see fit or charge more for faster speeds.
  • The FCC decision has led to a fierce pushback by consumers, law enforcement and major corporations.
  • Last week, a group of attorneys general for 21 states and the District of Columbia sued to block the rules. So did Mozilla, the maker of the Firefox browser; public-interest group Free Press; and New America’s Open Technology Institute. Others may file suit as well, and a major tech-industry lobbying group that includes Google has said it will support litigation.
  • This week, Montana became the first state to bar telecommunications companies from receiving state contracts if they interfere with internet traffic or favor higher-paying sites or apps.


(Bloomberg) Beware the $500 Billion Bond Exodus as Offshore Cash Comes Home

  • For years, the likes of Apple Inc. and Microsoft Corp. have stashed billions of dollars offshore to slash their U.S. tax bills. Now, the tax-code rewrite could throw that into reverse.
  • The implications for the financial markets are huge. The great on-shoring could prompt multinationals — which have parked much of their overseas profits in Treasuries and U.S. investment-grade corporate debt — to lighten up on bonds and use the money to goose their stock prices. Think buybacks and dividends.
  • It’s hard to say how much money the companies might repatriate, but the size of their overseas stash is staggering. An estimated $3.1 trillion of corporate cash is now held offshore. Led by the tech giants, a handful of the biggest companies sit on over a half-trillion dollars in U.S. securities. In other words, they dwarf most mutual funds and hedge funds.
  • While multinationals may be less inclined to sell their corporate bonds, at least initially, the impact could be more acute, analysts say. In recent years, firms such as Apple and Oracle Corp. have become some of the top buyers of company debt. Apple alone holds over $150 billion in the bonds, exceeding even the world’s biggest debt funds. The market itself is also less liquid, which means it takes far less to move the needle.
  • Big multinationals have good reason to bide their time, according to Richard Lane, a senior analyst at Moody’s Investors Service. Because their debt investments are so extensive, companies could end up inflicting losses on themselves with any large-scale selling.


(Reuters) GE reignites break-up talk after $11 billion insurance, tax hit

  • General Electric Co (GE.N) indicated it is looking closely at breaking itself up on Tuesday as the conglomerate announced more than $11 billion in charges from its long-term care insurance portfolio and new U.S. tax laws.
  • Chief Executive John Flannery has previously raised the idea of selling pieces of the largest U.S. industrial company, but went slightly further on Tuesday, saying GE is “looking aggressively” at a spin-off or other ways to maximize the value of GE’s power, aviation and healthcare units.
  • “I would categorize it as an examination of options and it’s (the) kind of thing that could result in many, many different permutations, including separately traded assets really in any one of our units, if that’s what made sense,” he said in response to an analyst question on a conference call, without giving any details.
  • Flannery already is eliminating thousands of jobs and cutting $3.5 billion in costs as he tries to solve problems he inherited when he became CEO on Aug. 1, including falling sales of power turbines, a build-up of inventory and declining profit margins in some businesses. His turnaround effort is still likely to take a year or more to play out.
  • Some Wall Street analysts saw Tuesday’s remarks as a sign that GE may already have figured out valuation, timing or disclosure requirements for a spin-off.
19 Jan 2018

High Yield Weekly 01/19/2018

Fund Flows & Issuance: According to a Wells Fargo report, flows week to date were -$1.2 billion and year to date flows stand at $1.0 billion. New issuance for the week was $6.9 billion and year to date HY is at $11 billion, which is up 32% over the same period last year.

(Bloomberg) High Yield Supply

  • The primary market for dollar-denominated high yield bonds has been active so far in 2018 as credit spreads narrowed to the tightest level in a decade. Most deals continue to be refinancing-related with energy issuers particularly eager to take advantage of firmer oil prices.
  • High yield dollar-debt issuers are actively tapping the primary markets at the start of the year, tallying total volume of $9.7 billion through Jan. 15 vs. a 10-year median of $8 billion over equivalent past periods. Demand appears strong, with many issues reportedly oversubscribed as secondary-market credit spreads reached a low of 318 bps on Jan. 9 — the tightest in a decade as gauged by the Bloomberg Barclays U.S. Corporate High Yield Bond Index option-adjusted spread to U.S. Treasuries.
  • Issuers in the energy and materials sectors continue to lead offerings in 2018, with a 67% share of the year-to-date volume vs. the 24% share of total debt outstanding in the Bloomberg Barclays U.S. Corporate High Yield Bond Index for these sectors. Most were refinancing deals as issuers take advantage of firmer oil and metal prices to extend maturity profiles and shore up balance sheets after the 2015-16 commodities slump. Energy index spreads have narrowed to mid-2014 levels, currently at 347 bps.
  • Companies Impacted: Sunoco LP has led issuance so far in 2018, with $2.2 billion in refinancing related 144A notes, while energy sector peer Ensco PLC sold $1 billion in global debt, also refi related. In the materials sector, Olin Corp sold $500 million senior debt, also a financing.


(Bloomberg) Teva to Become the Fourth-Largest Global High Yield Issuer

  • Moody’s downgraded Teva’s unsecured bonds two notches to Ba2, two levels below investment grade. This will trigger the removal of $17 billion in debt outstanding from the Bloomberg Barclays U.S. Corporate Bond Index, a subcomponent of the U.S. Aggregate Index, in the Feb. 1 rebalancing.
  • Moody’s downgrade of Teva’s debt means almost $25.6 billion face value in dollar and euro-denominated bonds will join the Bloomberg Barclays Global High Yield Corporate Bond index on Feb. 1. That’s about $23.5 billion market value at current prices, or about 1.2% index weight, which will make Teva the fourth-largest issuer in the index behind HCA, Sprint and Telecom Italia. Compared with the index, Teva’s bonds average higher ratings and lower yield, which should have a positive impact on index quality.


(Bloomberg) Frontier Asks Lenders for a Break as It Looks to Add More Debt

  • The rural telecom service is asking lenders to cut it a break on some of the terms governing its $18 billion in bonds and loans so it can raise new funds, potentially setting the stage for refinancing parts of its crippling debt load.
  • On a call with senior lenders and then in a regulatory filing Wednesday, Frontier executives proposed adding new debt at the junior level and enhancing protections for senior creditors. To that end, the company wants to eliminate a restriction on the amount of total debt it could incur as a percentage of earnings, according to the filing. Instead, the cap on that ratio would apply only to first-lien debt.
  • The changes “will afford the company greater flexibility in executing on operational initiatives and in optimizing its access to the debt markets,” Frontier said in an emailed statement.
  • Among other changes, the plan would set Frontier’s first-lien leverage ratio at 1.5 times Ebitda, dropping to 1.35 times in 2020, and limit additional first-lien debt to $800 million, according to the filing. Ebitda, or earnings before interest, taxes, depreciation and amortization, is a key measure of company’s ability to service its debt.
  • On the lender call, organized by JPMorgan Chase & Co., Frontier executives said they’d offer lenders a consent fee of 15 basis points in exchange for the amendments, according to participants.


(PR Newswire) Noble Corporation Announces Pricing And Upsizing Of Offering Of Senior Guaranteed Notes

  • Noble Corporation announced today that its indirect, wholly-owned subsidiary, Noble Holding International Limited (“NHIL”), has priced an offering of $750,000,000 aggregate principal amount of 7.875% senior unsecured guaranteed notes due 2026 (the “Notes”). The offering was upsized from a previously announced amount of $500,000,000. NHIL intends to use the net proceeds of approximately $738,750,000, together with cash on hand, to pay the purchase price and accrued interest (together with fees and expenses) in the tender offers (the “Tender Offers”) to purchase for cash up to $750,000,000 aggregate purchase price, excluding accrued interest, of NHIL’s outstanding 4.00% Senior Notes due 2018, 4.90% Senior Notes due 2020, 4.625% Senior Notes due 2021, 3.95% Senior Notes due 2022 and 7.75% Senior Notes due 2024 and the outstanding 7.50% Senior Notes due 2019. If the Tender Offers are not consummated, or the aggregate purchase price of the notes tendered in the Tender Offers and accepted for payment is less than the net proceeds of the Notes offering, NHIL will use the remainder of those proceeds for general corporate purposes, which may include the further retirement of debt, including, but not limited to, the purchase of debt in open market or privately negotiated transactions. The Notes offering is expected to close on or about January 31, 2018, subject to customary closing conditions.
12 Jan 2018

High Yield Weekly Insights 01/12/2018

Fund Flows & Issuance:  According to a Wells Fargo report, flows week to date were $1.2 billion and year to date flows stand at $2.2 billion.  New issuance for the week was $4.1 billion.

The high yield market is strong out of the gate in 2018. 


 (Bloomberg)  High-Yield Bond Spread at Lowest Since 2007 After Five-Day Rally

  • S. high-yield bond spreads hit a post-financial crisis low amid investor euphoria stoked by rising equity and commodity markets. Spreads have fallen for five consecutive sessions, the longest winning streak since February 2017, according to data compiled by Bloomberg.
  • Bloomberg Barclays High Yield index spread dropped to 320bps, lowest since July 2007, down 23bps since Jan. 1
  • Index compression already exceeds JPMorgan’s projected 20bps of HY spread tightening this year
  • BAML predicts HY spread will go as low as 290bps by yearend
  • Strong equities, low volatility, firm energy prices are driving the junk bond rally, helped by steady economic growth, low corporate default rates


(Bloomberg)  One-Tenth of High-Yield Communications Bonds Are Distressed

  • Led by Frontier, about 9.7% of the market value of high yield communications bonds are distressed, according to analysis by Bloomberg Intelligence analysts Stephen Flynn and Philip Brendel.
  • Largest portion belongs to Frontier, with almost $10b in market value of distressed notes, analysts say
  • Other large issuers: Windstream with $2.8b principal, iHeart with ~$10b and Intelsat $6b
  • While Windstream scrapped its dividend last year, Frontier continues to pay cash dividends on common stock, which Flynn and Brendel call “an odd combination” alongside its distressed debt
  • iHeart’s junior creditors will likely be fighting for scraps, as their influence in negotiations is likely minimal; pricing on unsecured debt could be “extremely volatile”


(RTT News)  Sunoco Announces $1.75 Bln Private Offering Of Senior Notes

  • Sunoco LP announced a private offering of senior notes due 2023, senior notes due 2026 and senior notes due 2028 in an aggregate principal amount of $1.75 billion. Sunoco Finance Corp., a wholly owned direct subsidiary of Sunoco, will serve as co-issuer of the notes.
  • Sunoco said it intends to use the net proceeds from the offering, together with the consideration it receives from its previously announced sale of certain company-operated retail fuel outlets to 7-Eleven, Inc., to redeem in full its 5.500 percent senior notes due 2020 at a call premium of 102.750 percent plus accrued and unpaid interest.
  • The company will also redeem each of its 6.250 percent senior notes due 2021 as well as 6.375 percent senior notes due 2023 at a make-whole premium plus accrued and unpaid interest.
  • In addition, Sunoco intends to repay in full and terminate its existing senior secured term loan agreement, repay a portion of the outstanding borrowings under its existing $1.5 billion revolving credit facility, pay all closing costs and taxes in connection with the 7-Eleven Transaction, redeem all of its outstanding Series A Preferred Units, and also fund the repurchase of a portion of its outstanding common units.

(CAM Note)  Sunoco ended up pricing $2.2 billion in notes across 5, 8, and 10 year maturities.


(Reuters)  Drahi hits Altice reset button to court wary investors

  • Altice founder Patrick Drahi is reshaping his telecoms and cable group for the second time in as many months by splitting its U.S. and European operations, hoping to end a drastic downward share-price spiral.
  • Heavily indebted Altice said it would spin off its U.S. arm, which owns the country’s fourth-biggest cable operator, to existing investors, and would prioritize efforts to turn around its European operations including French telecoms operator SFR.
  • Altice USA will pay a parting dividend of $1.5 billion to the European arm, to be named Altice Europe. Divestments of non-core assets, some of which are already under way, should also help to pay down debt, Altice said on Tuesday.
  • “We’re very focused on the operating story, specifically in France and Portugal,” Dexter Goei, Altice Chief Executive, told reporters during a call. “Over the medium and longer term, I‘m certain this question will be asked again and maybe we’ll have a different response.”
  • The two companies will be led by separate management teams with Franco-Israeli billionaire Drahi retaining control of both and garnering a large share of the dividend as well as of a $2 billion share buyback planned by Altice USA.
  • Dennis Okhuijsen, Altice’s current chief financial officer, will become CEO of Altice Europe and Dexter Goei will continue to serve as chief executive of Altice USA.
  • Altice has grown rapidly through acquisitions in the United States and Europe, helped by cheap debt that has risen to around $60 billion — more than five times its annual core operating profit.
  • In the United States, Drahi spent $28 billion in 2015 to buy cable companies Suddenlink and Cablevision, and even flirted with a $185 billion bid for cable giant Charter.
12 Jan 2018

Investment Grade Weekly Insight 01/12/2018

Fund Flows & Issuance: According to Wells Fargo, IG fund flows for the week of January 4-January 10 were $5.1 billion, the largest inflow in over 3 months. Note that these are total flows across four investment strategies: Short, Intermediate, Long and Total Return. Per Bloomberg, investment grade corporate issuance for the week through January 11 was $25.425bln. As we go to print, the Bloomberg Barclays US IG Corporate Bond Index is trading at an OAS of 90, relative to the 2017 tight of 93.

(Bloomberg) IG Sales May Rise as Banks Begin to Exit Blackouts

  • On the cusp of a long holiday weekend, high-grade issuers may choose to remain on the sidelines to close out the week. Activity has been muted with the week standing at just over $25b, falling shy of estimates calling for at least $30b.
  • Expect an increase in sales next week as more U.S. banks emerge from earnings blackouts.
  • JPMorgan (JPM) and Wells Fargo (WFC) both reported 4Q earnings this morning. Citibank (C) comes Tuesday, Bank of America (BAC) and Goldman Sachs (GS) report Wednesday and Morgan Stanley (MS) is Thursday.

(Bloomberg) Junk Euphoria Unshaken as Funds See Biggest Inflow Since Dec.’16

  • Investors reiterated their confidence in junk bonds by investing in high yield funds. Lipper reported an inflow of $2.65b into U.S. high yield funds, the biggest weekly inflow since Dec. 2016.
    • Investor euphoria led to the return of pay-in-kind notes offering in the primary yesterday, with Ardagh pricing at the tight end of talk with orders of more than $1.25b, about 3x the size of the offering. The Ardagh bonds traded at 102.875 after pricing at par
    • Investors shrugged off aggressive use of proceeds, suggesting risk appetite was strong. Ardagh raised debt to “provide liquidity to shareholders.” CSC Holdings is marketing bonds to fund a dividend to parent Altice USA
    • Recent new issues have been flooded with big orders. Ensco priced through talk and increased the offering size to $1b with orders more than 4x the original size of the offering. Sunoco’s $2.2b 3-part notes got orders for ~$6b earlier in the week
    • Issuance volume was on pace with 2017 with $5.5b pricing MTD
    • While junk yields seemed weary and stalled a bit as they come off 2-mo. lows; there appeared to be no clear catalyst yet that could derail junk bonds in the near term, as stocks climbed to new highs, oil set new 37-mo. high and volatility was still near multi-year lows
    • High yield continued to be backed by an overall supportive environment:Moody’s Liquidity Stress Indicator kicked off 2018 with a new low of 2.5%, suggesting junk issuers were backed by steady economic growth and buoyant credit markets as investors scramble for yield
    • Corporate default rates declined, another critical pillar factor for high yield
    • Steady economy, declining default rates, low volatility, steady oil prices and stocks augur well for high yield
        • Eight deals for $5.5b MTD
        • 510 deals for $275.393b in 2017



05 Jan 2018

Investment Grade Weekly Insights 01/05/2018

Fund Flows & Issuance: According to Wells Fargo, IG fund flows for the week of December 28-January 3 were $3.0 billion, the largest inflow in six weeks. Per Bloomberg, investment grade corporate issuance for the week through January 4 was $21.05bln. As of today, the Bloomberg Barclays US IG Corporate Bond Index is trading at an OAS of 94, which is +1 from the 2017 tight of 93. In 2007, spreads bottomed at an OAS of 82. The all-time tight is 54, which occurred in March of 1997.

(WSJ) Who Are the Big Players in the Bond Market? Small Investors

  • Ordinary investors are a growing force keeping longer-term bond yields low, even as the Federal Reserve has raised interest rates. They are helping cap borrowing costs for individuals, corporations and state and local governments, while boosting the appeal of riskier assets such as stocks, which have climbed to record after record in recent months.
  • John Nederhiser exemplifies the current crop of bond buyers. While professional money managers fret about interest-rate increases, rising budget deficits and inflation, the 58-year-old accountant in Gresham, Ore., said such concerns won’t deter him from continuing to add to his fixed-income holdings. “Pretty much what I’m going to do is stay the course,” he said.
  • An aging population means investors like Mr. Nederhiser are likely to remain a factor, as people typically increase bondholdings as they approach retirement. The population of U.S. residents age 65 or older has grown more than 40% since 2000 to 49.2 million in 2016, according to the Census Bureau, which could signal steady demand for the debt. The median age for investors with fixed-income holdings ranging from mutual funds to individual bonds is 53, according to the Investment Company Institute’s annual mutual-fund shareholder survey, up from 49 in 2007.
  • Some older investors have lived through periods where inflation climbed above 10% and where it cratered below zero, while watching plunges in technology stocks and home prices dent their accumulated wealth. For some, that has led to a pragmatic appreciation of bonds’ steady income and relative stability.
  • The sanguinity of ordinary bondholders stands in contrast with 2017 statements from some more famous investors such as Bill Gross and Jeff Gundlach, both dubbed “the Bond King” at various times. Mr. Gross and Mr. Gundlach each created a stir last year by intimating a broad selloff might be approaching.
  • Much of the support individual investors are giving to the Treasury market is as a result of their investments in diversified bond funds, not an insatiable hunger for government debt. That is because government debt now makes up more than one-third of the Bloomberg Barclays U.S. Aggregate bond index, a popular reference point that guides how many portfolio managers assemble their holdings.
  • The amount of Treasurys in the index has risen from roughly one-quarter in 2007, before the financial crisis led to an explosion in government borrowing and a slowdown in issuance from corporate and mortgage borrowers. The proportion of Treasurys may rise further as the Fed pares back its $4.2 trillion in holdings of government and mortgage debt, which indexes don’t count since the Fed’s portfolio sits outside of the open market.
  • With government bond yields already near modern lows, some analysts see complacency as among the biggest risks. And some investors find it difficult to settle for single-digit bond yields when the S&P 500 index has posted double-digit returns for the seventh time in the past nine years.
  • It remains to be seen if retail investors will hang on to bonds should yields start to skyrocket. During the 2013 “taper tantrum,” which followed then-Fed Chairman Ben Bernanke’s statement that the central bank was preparing to stop its bond purchases. Bond funds suffered net outflows for eight consecutive months afterward, while the yield on the 10-year note almost doubled to around 3%.


(Barron’s) Intel: Don’t Anticipate Any Impact to Business

  • Intel (INTC) executives this afternoon held a conference call to address reports today, initiated by The Register, that the company had a “bug” or flaw in its chips that raised security issues, a charge the company had this afternoon rejected.
  • Led by Intel executive Steve Smith, the head of the company’s data center engineering, the company said repeatedly its chips are “performing as designed” and that info appearing today had contained mis-information.
  • “There were some info in media that was, I’ll call it, ahead of time,” said Smith, referring to the fact Intel said it had been working “for some time now” with security researchers and with operating system vendors and computer makers to prepare “mitigation” of security risks. The reports in media were “potentially misleading,” said Smith, “so wanted to clarify.”
  • Added Smith, “Since our products are performing to specification, we don’t anticipate a material impact to our business or our products, because they continue to operate properly.”
  • “We don’t expect any financial implication around Intel’s products,” Smith later reiterated.


(Bloomberg Markets) Morgan Stanley Wealth Exits Junk Bonds, Warns on Recession Risk

  • It’s too late in this market cycle to bet on high-yield bonds, according to Morgan Stanley Wealth Management.
  • So, the $2 trillion money management arm is completely slashing junk bond allocation. True, tax cuts are expected to inject fresh momentum into high-flying stocks, but the boost may be short-lived and mask balance-sheet weaknesses, Mike Wilson, chief investment officer, wrote in a note distributed Wednesday.
  • “While the tax cuts just enacted in the U.S. may lead to better growth in the short term, they may also bring forth the excesses we typically see before a recession — which is something credit markets figure out before equities,” according to the note. “We recently took our remaining high yield positions to zero as we prepare for deterioration in lower-quality earnings in the U.S. led by lower operating margins.”
  • Though Morgan Stanley doesn’t expect a recession in 2018, it sees the risks rising. Between tightening monetary policy and fewer positive surprises in earnings and economic data, any remaining upside is likely to be speculative, according to the firm.
  • “We think it will be much tougher to make money in 2018 and 2019 than in 2016 and 2017 as the risk of a recession and outright bear market comes closer,” Wilson wrote. “Late-cycle dynamics have become even more evident.”