The financial earthquake that shook Wall Street last week may be followed by a $900 billion aftershock as bank debt comes due in the next year. US and European banks face soaring premiums as a mountain of debt matures at a time when the primary market remains frozen.
As much as 150 billion euros ($220 billion) billion in euro-denominated debt is due in the next six months, according to Barclays Capital, and $673 billion of US dollar-denominated financial debt is set to mature through the end of 2009, based on Morgan Stanley data.
That means banks, already suffering from the worst credit conditions since the Great Depression, will be forced to re-issue bonds at a steep price to roll over borrowings and raise fresh capital or seek other options including reduced loan growth.
"Either they will have to pay up to get it done or they will have to do other things, like asset sales, which is also difficult," said Olivia Frieser, a bank credit analyst at BNP Paribas, in London.
In Europe, there is cash to be put to work and investors are expecting hefty discounts on senior debt. A UBS five-year 1.75-billion-euro bond was launched at the end of August, for example, at a 19-basis-point premium over secondary spreads and 125 basis points over its credit default swaps.
"We're underweight on the financial side, but senior paper is one area we would be looking into in the medium term," said Christian Doppstadt, head of corporate credit investment at WestLB Asset Management, in Dusseldorf, Germany.
CRUNCH TIME:
Wall Street's landscape changed dramatically last week with the US government's $85 billion loan for AIG, once the world's largest insurer based on market value; the bankruptcy filing of Lehman Brothers Holdings Inc, the parent of the fourth-largest US investment bank, and the fire sale of Merrill Lynch, the largest US retail brokerage, to Bank of America.
Uncertainty about how and when the US government's planned $700 billion rescue of the financial sector, announced last weekend, will be implemented also means that credit spreads remain near record wide levels.
"You've got to look through the short-term uncertainty and put this in the context of what it is: It may not be the end game but it's certainly a step in the right direction for risk and for reopening the primary market," said Simon Ballard, senior credit portfolio manager at Fortis Investments, in London.
"When the market can stabilise and get some confidence will be key to getting liquidity going, and that will become a self-fulfilling prophecy as the new issuance will garner confidence," Ballard said.
But ultimately higher borrowing costs in the banking sector will be passed on to corporates. The extra yield, known as the spread, that investors demand to hold risky high-yield bonds over US and European government bonds, also widened to record levels on September 18, a sign of rising risk for those securities.
Those costs have deterred some borrowers from issuing debt, but some may not have a choice now as the terms of existing cheap bank credit facilities, negotiated before the credit crisis, get used up or need to be renegotiated.
CORPORATE BOND SALES DROP:
Global investment-grade corporate bond sales fell to $1.67 trillion, year-to-date, versus about $2 trillion for the same period last year and compared to a record $2.6 trillion in 2006, according to Thomson Reuters data.
Global high-yield bond sales dropped to $37 billion year-to-date, versus $131 billion for the same period last year and a record $185 billion for all of 2006, Thomson Reuters data shows.
There have been no high-yield deals in Europe for well over a year. "High-yield issuance is on track to be down 50 percent from last year," said Martin Fridson, chief investment officer of New York-based Fridson Investment Advisors, during the Reuters 2008 restructuring summit in New York.
"If anything, the year-over-year decline will be a bit greater than that, as the issuance has slowed to a trickle recently," Fridson said. Fridson noted that financial paper is not a material factor in the high-yield new-issue market, so refinancing for those companies has more to do with how the investment-grade market for new issues holds up.
In Europe, Barclays estimates that 50 billion euros worth of non-financial redemptions are due over the next six months. "The key factor for issuance will not only be market conditions and upcoming redemptions, but also the fact that corporates' flexibility to issue appears more limited," Barclays said.
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