In response to Bubblicious Debate: Greenspan Says “Bond Bubble About to Break”, No Stock Market Bubble, reader AC wants to know how to track it.
how can I track/spot Junk bonds yields?
The bubble sounds very close to the top, with bears throwing in the towel, and “new normal” thinking back in vogue.
Moody’s Baa is its lowest investment grade, one step above junk.
Baa yields are at a record low. The BofA Merril Effective High Yield is near record lows. Euro-denominated junk bond yields are at a record low.
Junk bonds yields are priced as if the Fed and ECB can permanently prevent corporate defaults.
HYG Junk Bond Index
Record Issuance of Covenant Lite Loans
On May 23, Barron’s reported Weaker Loan Terms Could Mean Lower Future Recoveries.
Moody’s Analyst Julia Chursin comments:
“After three years of record issuance, cov-lite loans now account for the largest share ever of the US leveraged loan market, while at the same time debt cushions below first-lien cov-lite loans have fallen dramatically. This deterioration portends lower investor recoveries in the next default cycle.”
If the issuer goes into bankruptcy, the lack of a debt cushion below the first-lien notes can mean lower recoveries, Moody’s finds in a new report published Tuesday. The report makes these key points:
- With cov-lite loans constituting ¾ of the new institutional loan issuance in 2016, debt cushions below first lien cov-lite loans have fallen dramatically in recent years, from about 33% for loans issued before the credit crisis to about 22% last year.
- The structure of loans, crucial to determining recovery rates, has deteriorated as cov-lite loans came to represent the majority of the syndicated loan market.
- Moody’s analysts forecast recoveries on recently rated first-lien loans, both with and without maintenance covenants, at just over 60% — significantly lower than the 85% long-term average recovery for first-lien secured bank debt.
- Cov-lite borrowers default at the same rate as the broader spec-grade universe, with a firm analysis showing the 3-year average cumulative default rate of all cov-lite loan deals between 2005 and the first quarter this year dropped from 18.3% to 12.3%, a percentage nearly even with the rate for all US spec-grade corporate debt issuers (12.6%).
- Of 54 cov-lite defaults analyzed, prepackaged bankruptcies and DEs are still heavily represented in cov-lite defaults, explained by the presence of PE sponsors – 57% of the analyzed population being owned by a PE firm at the time of their default.
Toggle bonds, also known as Payment-in-Kind (PIK) bonds allow the borrowers to pay interest, not in cash, but with more bonds.
On September 8, 2016, Bloomberg reported Red-Hot Market Spurs Risky Bonds That Allow Interest Delays.
The bond market is getting so hot that it’s fueling a surge in debt deals allowing companies to defer interest payments.
Just a week in, September is already on track to become the busiest month for so-called payment-in-kind toggle notes that let companies pay coupons with more debt, according to data compiled by Bloomberg. Ardagh Group SA, a Luxembourg-headquartered packaging company, sold $1.72 billion of the securities. German auto components maker Schaeffler AG is poised to sell 3.59 billion euros ($4.05 billion) of the notes on Thursday, more than 1 billion euros than initially planned, which would make it the largest PIK issue ever, Bloomberg data show.
Investors desperate for high yielding assets are cutting companies more slack and accepting weaker debt terms because central bank stimulus has sent yields on $11.4 trillion of securities below zero. Average yields on junk-rated bonds slumped to a record low in Europe and globally are dropping toward unprecedented levels reached two years ago, according to Bloomberg Barclays bond index data.
PIK debt is often issued at the holding company level, which makes the notes riskier because they are one step removed from the operating company. Schaeffler is selling its notes through its holding company.
The debt became popular before the financial crisis because private equity firms used it to fund their take-over deals without the need to use up cash for coupons. More recently, it has been increasingly used in restructurings to take pressure off companies’ cashflows.
“No Irrational Exuberance in Stocks”
“There is no irrational exuberance that I can see. In fact, it is just the opposite at this stage.”
Fed Sponsored Bubbles
The junk bond bubble (asset bubbles in general) is courtesy of interest rate suppression policies of the Fed and ECB.
I find it ironic that Greenspan speaks of a “bond” bubble” in Treasuries, totally oblivious to the real bond bubble in junk.
Neither the Fed nor the ECB sees the bubbles they have created. Their mission is not to spot bubbles or prevent them. Their mission is to bailout the banks after the bubbles they create implode.
I offer this bit of advice on Greenspan.
- Bubblicious Debate: Greenspan Says “Bond Bubble About to Break”, No Stock Market Bubble
- Central Banks Puzzled as Global Inflation Hits Lowest Level Since 2009: Solving the Puzzle
- “Idiosyncratic and Transitory Factors” Holding Down Inflation: New Definition of Transitory
For a detailed look at the stock market bubble, with thanks to John Hussman, please see Median Price-to-Revenue Ratio Higher in All Deciles vs 2007, 90% vs Dot-Com Bubble: THE Choice
Mike “Mish” Shedlock
Tony Bennett said:
“cov-lite loans now account for the largest share ever of the US leveraged loan market”
Not of question of “if” but “when” this blows up … my question is how much yield starved underfunded pensions have ingested?
Good question, 2nd and 3rd level impacts.
Fiduciary duties undertaken properly by trustees?
Who will be to blame and will they get off the hook or held responsible?
Ambrose Bierce said:
The usual indicators are only going to turn after the bubble breaks. https://privatewealth.usbank.com/pcrcp/pdfs/files/Interest%20Rate%20Shock%20Scenario.pdf
the usual suspects: falling dollar runaway deficits (check and check) there is also a matter of the way the Fed holds up the MM markets with RRPO which puts pressure on short term rates at intervals, the case being that they go to the well once too often. once it breaks they are forced to follow.
Incredible financial engineering on the bond side. Oh and don’t forget co-co bonds and bond etf’s. I had to look up what the heck PIK bonds where . In regard to cove-lite loans; the referred to article said that PE firms where representative in 57 % of defaults. Could this be related to their asset stripping tendencies ? Additionally, your observations on the PCE
indicator and the trade “deficits” with Mexico are commendable. never occurred to me to fact check these data points.
Reblogged this on World4Justice : NOW! Lobby Forum..
Maximus Minimus said:
Eurozone corporate junk bonds have lower yield than US treasuries, and treasuries are at historic low. Even Greenspan can figure out that this is a bubble, but still haven’t figured out who caused it.
To call it a bubble infers failure or collapse, so just as we don’t use the term “default” anymore (as they would trigger derivatives) bubbles are verboten as well now.
It’s all good…..it just HAS to be.
The charts say so Madash.
When everything stays long enough a certain way it becomes the normal, and everything gets normalised to that normal, making it even more normal.
That is progress for you, no more hustle and bustle, not a snowflake in sight, we are all 21st century bubble creatures.
Diogenes of Sinope said:
Snowflakes are now middle level managers across the corporate spectrum. They remain special even without having spent a single day of their entire careers in a normalized rate environment.
You can’t tell them about bubbles, they have no non-bubble perspective by which to measure your words by.
Doesn’t stop them being in a bubble though, ‘special’ ones that never burst… just like all the rest.
Maximus Minimus said:
Just visited a website of a Eurozone bank. Their three year term deposits on 10,000 yield €48.64. Banking has never been this much fun.
Medex Man said:
Tesla is offering $1.5 billion in garbage “bonds” to pay for Model 3 production, which was already subsidized by the Obama regime with taxpayer funds. How many times must the public pay for these “cheap” cars? When a car gets $70K in subsidies per unit, and then sells for “only” $30K (supposedly) — how is that anything other than corrupt crony capitalism?
Does Leonardo DiCaprio really need to get $70K in taxpayer subsidies to buy a $100K car, when he gets driven everywhere in a chauffeured limo? Should middle class taxpayers be forced, under penalty of fines and jail time, to provide Leonardo with these subsidies?
As a billionaire and the recipient of the first production Model 3, does Elon Musk really need middle class taxpayers to subsidize his car?
Adding insult upon corrupt cronyism, now Tesla wants pension funds to buy $1.5 billion in junk bonds to pay (again) for this nonsense? Remember, Tesla the car company doesn’t make any money, not even after the massive subsidies. Baring a miracle, Tesla cannot repay these loans.
When debtors who have zero prospects for repaying loans are running about hawking $1.5 billion in new debt to tide themselves over until they can weasel more taxpayer subsidies from a corrupt government… that’s way beyond a bubble
We are all aware of President Obama’s obsession with electric vehicles (EVs), for example. In 2011, he pledged that the United States would have one million new generation electric cars on the road by 2015 and pledged billions to do it. He and a bipartisan consensus in Congress wasted gobs of money and warped markets to miss that absurd goal by a yawning margin. Likewise, he threw billions at solar energy with direct and indirect subsidies. Solar power is still not cost competitive.
From Crony Capitalism, Musk made billions.
It’s all “stimulus”. How long before they drug our water to make us content and compliant?
Diogenes of Sinope said:
LMAO, you make it sound like the water where you live is still clean.
Ha, ha, ha!!!
Mike Bravo said:
The other thing being pitched to me almost daily these days is EM debt.
Just buy everything, sure to be a winner in their somewhere – can’t go wrong
Pin Wheel said:
Forget interest rate compression. Central Banks are buying junk bonds, plain and simple. They have infinite funds and can endure infinite pain. They will never sell these bonds, no mater what the environment because that would only make matter worse. Buy, buy, buy.
Blaming the FED for low interest rates is the equivalent of blaming traffic cops for speeding cars. The underlying reason for low interest rates is the surplus of uninvested capital due to the profits generated by globalisation. I am totally amused by all the graphs representing debt since the US came off the gold standard. Most people think that fiat money and fractional lending is a recent phenomena. The modern credit system is nearly two hundred years old. Prior to the 1857 bank crisis, the first modern international bank crisis, which occurred at the time of the gold standard, total credit was nine times bank reserves half of which was in gold. So what is different? What the FED is guilty of is adding fuel to the fire, turning up the music when it should have been turning it down. But then the FED has always acted in the interest of moneyed capital which it was designed to do. Interest rates are a product of the interaction of the demand and supply of money capital. In a period of expansion where profits are ample interest rates decline, when the expansion becomes stretched they begin to rise, and when the expansion collapses and with it credit, they spike as money becomes king. They do not have an independent existence. It is not speculators who demand low interest rates, it is low interest rates that give rise to speculation because the funds available for production are ample. If today the 10 year rate is unable to keep its head above 2.3% this has to do with the state of the economy, it owes nothing to the speculators and it will only spike when the chain of credit breaks down as it will on the eve of the coming crash.