There’s been no let up in demand for corporate debt. And where there’s demand, there’s supply, especially at a time when borrowing costs are near record lows despite a challenging economic environment.
Last week, I spent quite a bit of time documenting the supply bonanza, both for blue-chip and junk borrowers, who have taken advantage of a market kept wide-open by the Fed’s backstop for corporate America.
While the Fed’s words and deeds (and don’t let it be lost on you that until May, when the ETF purchases began, the market was going strictly on the former) have averted a highly undesirable scenario wherein creditworthy companies were shut out of capital markets, there are now pressing concerns about the potentially hazardous juxtaposition between an even more over-leveraged corporate sector and an economic rebound which, if it’s not robust enough, may leave companies in the lurch in terms of their capacity to service the new debt.
With that as the backdrop, 11 borrowers tapped the investment grade primary market on Monday for more than $21 billion.
The new deals come hot on the heels of some $50 billion in supply last week, and around $85 billion so far in August coming into Monday.
Both the investment grade and high yield primary markets took just eight months to beat their respective full-year totals for 2019.
As of Monday afternoon, blue-chip debt sales had topped their all-time, full-year record near $1.4 trillion. Just five months ago, the market was set to freeze in the face of the pandemic.
High yield sales hit $275 billion for the year last week (see “Junk. Lots Of It“).
Previously, analysts and market watchers expected the tsunami to ebb once management teams stacked enough sandbags to ride out the hurricane. That thesis appears to be in doubt.
“Investors are left wondering whether this heavy supply is a mere blip or if the market will see continued heavy issuance into September”, BMO’s Daniel Krieter and Daniel Belton said Monday, of the ongoing deluge in the high grade market. “Conventional wisdom was that issuers had pre-funded much of their borrowing needs at least into the fall, and cash holdings were ample to wait out weaker aggregate demand at least for a few months”, they went on to say, adding that now, these assumptions “likely need to be re-examined as supply in August shows no signs of slowing in the near-term”.
If you were so inclined, you might suggest the C-suite believes more precautionary funding is necessary considering the distinct possibility that the economy suffered structural damage earlier this year and may take another turn for the worse.
In yet another testament to all of the dynamics mentioned above, Bloomberg’s Eric Balchunas notes that “about 70 hedge funds reported buying or selling LQD in Q2 including Soros, Bridgewater, [and] Renaissance”. The Fed is, of course, among the top holders of LQD.
On balance, fund managers were sellers, apparently. Hedge funds pulled $1.87 billion from the product, Katherine Greifeld wrote Monday, adding that “Elliott Investment Management’s $468 million exit and Ken Griffin’s Citadel’s $341 million reduction [led] the outflows”.
Soros looks to have come out looking like the smart money simply by hewing to the old adage about “not fighting the Fed”.
“All told over 700 institutions traded LQD”, Balchunas went on to remark. “That’s a REALLY high number, about two times more than HYG and four times that of TLT thanks to [the] mad rush to front-run Fed purchases”.
There are a lot of “REALLY high” numbers associated with corporate credit in 2020.
If the Fed holds the paper of a corporate entity that files for bankruptcy (or insolvency), would taxpayers shoulder the write-down of losses? I’m wondering if the definition of “too big to fail” might be changing to accommodate this new exposure to risk.
A lot of companies are currently issuing debt to replace near term liabilities with longer maturities.
yeah i thought the same thing. i assume H’s numbers take that into account.
“A lot of companies are currently issuing debt to replace near term liabilities with longer maturities.”
They’ve been doing this for centuries. That’s how it works and why the debt never really has to be paid back. Short-term debt is defined as debt due in a year or less. However, when a firm refunds that debt replaces it with fresher debt, the short-term debt effectively changes into permanent capital. That’s why it is an error to exclude short-term debt from a firm’s capital base. It never goes away in a going concern. BTW, the same treatment is given to long-term debt. Firms really only pay back debt when their flexibility is impaired. Then, like it or not, it usually takes some new equity to create cash without obligation to restore the balance of capital sources in the balance sheet.
Actually i was thinking more about interest rates. With rates at really low levels companies are calling their higher interest bonds and reissuing new ones at lower interest rates. This is not quite the same as zombie companies issuing new bonds just because they can. So if you are counting the size of the debt being issued you would need to adjust for the equally large amount of debt being called; which i expect H has.