Junk Market Is Only Open to Familiar Firms Offering High Yields

Published 5 October 2022 08:00:14.436 GMT

(Bloomberg) -- Europe’s junk debt market has become so selective that only the most well known borrowers are able to sell bonds -- and even they have to offer sky-high rates. It’s a worrying sign for other issuers that aim to tap the market, and for banks on financing deals.

The two borrowers that succeeded in carrying out sizable bond issues in September -- security company Verisure Holding AB and Italian lotto company Lottomatica SpA -- did so with coupons of 9.25% and 9.75% respectively. That compares with a yield of under 3% for a European junk market index at the end of last year. Two other publicly syndicated deals last month – from House of HR and IT services provider Inetum SA -- didn’t even make it across the finish line.

High yield borrowers have faced extremely challenging conditions this year, with soaring inflation and rate hikes putting an end to years of easy access to debt, and appetite for riskier assets slumping since Russia’s invasion of Ukraine.

Corporate, non-financial junk bond sales in Europe plummeted around 80% this year compared with the same period last year, according to data compiled by Bloomberg, while the rates offered by Verisure and Lottomatica had rarely been seen in recent years.

Bloomberg Intelligence: Junk Yields’ 8.5% Is Second Worst Year; No Supply, Yet Not Cheap

It all paints a concerning picture for issues in the pipeline, which includes names such as Italian specialty paper producer Fedrigoni SpA and Danish telecom operator TDC. At the same time, banks on financing deals are watching billions of dollars in losses mount on deals they’ve had to sell at discounts.

“Investors are being quite cautious about putting their money at work and as we get toward the end of the year, that caution will increase,” said Madelaine Jones, a high yield portfolio manager at Oaktree Capital Management, in an interview on Bloomberg TV last week. Fund managers are holding onto cash “unless there is a really compelling reason” such as very attractive pricing or if the offering is from a very high-quality name, she said.

Verisure, which last week sold €500 million ($499 million) of new five-year notes to refinance existing ones, is a well-known name in the market and was the first European company to tap public markets after coronavirus lockdowns brought issuance to a halt in March 2020. The business is well liked, with JPMorgan Chase & Co analysts saying demand for security systems may rise as crime increases during recessions.

Gambling company Lottomatica is also perceived as a relative winner during an economic downturn, with steady cash flows and a less cyclical business model.

But with well-liked borrowers having to offer such high yields, those in less popular sectors are finding the market virtually closed. Banks scrapped plans to sell a junk bond for debut issuer Inetum and increased the leveraged loan portion instead. Meanwhile, the bond part of a financing for Bain Capital’s acquisition of House of HR -- in a sector that’s vulnerable during recession -- went quiet, with banks holding back a chunk of the debt on their balance sheets.

Banks to Be Stuck With Up to €500 Million House of HR Debt

“The high yield market might not be accessible to all companies currently,” said Peter Low, an analyst at Lucror Analytics, singling out those that are more macro-dependent or have weak cash flow generation. “Companies with solid business models would still be able to access the debt markets, but will likely need to pay a higher coupon,” he said.

Secondary Appeal

Falling prices in the secondary market may also be reducing demand for new issues. With more than a third of euro-denominated high yield bonds tracked by a Bloomberg index trading below the distressed threshold of under 80 cents, some investors may see more opportunity and less risk in issuers they are familiar with.

“At the moment, if I have liquidity I prefer to invest it on the secondary markets, on names I already know,” said Alberto Gesualdi, partner and head of fixed income at Milan-based Ver Capital SGR, which manages €1 billion of European corporate debt. “I also prefer to invest in secondary because it allows me to work on shorter maturities than the primary side, reducing volatility.”

By Giulia Morpurgo