Sovereign yields advance
ECB Forum – inflation still thought transitory
Regulators have increasing concerns at greenwashing
China Evergrande still casts a shadow over global markets
JDE Peet – serving 4,500 cups of tea or coffee every second!
Cryptocurrency price tumble after China intensifies crackdown
Recent trades – AT&T / Country Garden
Central banks have pledged to withdraw their stimulus gradually. But a continuing rise in long-term borrowing costs could risk denting confidence in the recovery prospects. This week, the yield on German, UK and U.S. Treasuries all advanced with the U.S. 10-year bellwether bond rising to 1.53%, meaning it has lost over 2 points in price just this week. The Treasury 30-year yield has now risen above 2%, the first time since June, with an over 6 point price fall.
The inflation debate continues. At the ECB Forum on Central Banking this week, a conference which bring together central bank governors, academics, and others to discuss current policy issues. Overall, the panel discussion was really only about one topic – how long the current spike in inflation will last. All agreed it would be transitory, and this was the central message coming out of this first day. Federal Reserve Chair Jerome Powell and his counterparts at the European Central Bank, Bank of Japan and Bank of England voiced cautious optimism on Wednesday that supply-chain disruptions are lifting inflation rates around the world but would ultimately prove temporary. The New York Fed's John Williams thinks U.S. inflation, now running at a 4.2% yearly, will reduce to around 2% in 2022.
More on Greenwashing
In our Bond Commentary at the beginning of September I highlighted the problem of Greenwashing – the process in which a company gives a false impression of its products and services. Now we hear that many of Europe’s largest asset managers have now dropped the Environmental, Social and Governance (ESG) label from their company filings because of concern that regulators will no longer tolerate vague descriptions of ESG investing. Although this applies to Europe’s asset management industry at the moment, we believe this will soon be picked-up by the U.S. managers.
Bond issuance
In our last Bond Commentary, I proffered the idea that the number and success of new bond issues entering the market was a good pointer to the condition of the wider secondary market. The day after I wrote this, at least eight blue-chip corporate issuers decided against new offerings after a bumper month of money raising. However, the market bounced back the next day proving once again that the bond market is indeed extremely strong and robust. Despite that slight issuance hiccup mid-month and the volatility in Treasury bonds and equites, the total investment grade issuance still hit $158bn, surpassing top end estimates. High yield issuance total was more than $43.8bn.
The on-going worries over a default by China Evergrande – a company whose debt we have never held – continues to spook markets, as the largest issuer of sub-investment grade bonds in the region, it now faces coupon payment and redemption deadlines. All the rating agencies have recently further downgraded the credit, the third time this year, to C/CC/C. As I write this there has still been no payment to holders of a dollar-denominated that was due to be paid last Wednesday.
Petrobras rating upgrade
Brazilian state-owned petroleum company, Petroleo Brasileiro (Petrobras), has been upgraded to Ba1 by Moody’s, one notch above that of Brazil’s own sovereign debt. The rating action was triggered primarily by the company's strong operating and financial performance as well as its solid credit metrics. Moody's said it expects that Petrobras' operating and financial discipline will continue to support cash generation, which will help sustain its current capital structure despite higher pay-outs to shareholders. Moody’s also said that the rating actions also considered the company's good liquidity position and comfortable debt maturity profile as well as its ample access to the global capital markets. Elsewhere the oil company is rated BB-/BB-.
Yesterday Fitch upgraded its BB+ ratings on Braskem – 32% owned by Petrobras - from negative to positive watch. S&P rate the Brazilian petrochemical company at BBB-.
JDE Peet bond issue
An intriguing thing about corporate bond market is the sheer variety and diversity of companies raising money. In 1753 in Joure, the Netherlands, Egberts Douwe founded his first coffee outlet. Over a century later in 1895, in BremenGermany, Johann Jacobs opened his first grocery business. Then in 1966 in Berkeley, California, U.S., Alfred Peet opened his first Peet's coffee store. The combined company, now called JDE Peet’s raised €2.25bn in May 2020 in what was then Europe’s biggest IPO for 2 years.
However, the world’s largest coffee company has hit a potential problem, the price of coffee rising 20% last week, to its highest in 7 years. Severe frosts damaged a large parts of fields in the main Brazilian coffee belt and a new polar air mass is forecast to move over the same areas later this week, which will be the third strong cold front to hit crops this year. The share price has now dropped 20% from its IPO launch price. In May this year the company raised €2m with a 3-part euro denominated bond deal. Last week JDE Peet successfully launched its first dollar denominated deal. The company launched a $1.75bn bond deal, from a $10bn orderbook, with a 3-part, 3, 5 and 10-year senior unsecured notes which are rated Baa3/BBB-/BBB-, all stable. Despite the shares sinking to their lowest level the new dollar bonds have done well and are currently trading on tighter spreads from launch levels.
Medline Industries
American private health care company Medline Industries was one of many sub-investment grade companies to access the new issue market raising a total of $12bn in just one day. Medline itself sold $7.77bn of new bonds to fund the biggest Leverage Buyout’s (LBO) since the global financial crisis, and the largest sub-investment grade bond sale on record to fund a LBO. Blackstone, Carlyle Group and Hellman & Friedman bought a majority stake in Medline valuing it at more than $30bn. The company will still be run by its existing management and the founding Mills family, which will remain the largest single shareholder.
Earlier this week the LBO consortium launched 2 bonds to help pay for its deal. One a $4.5bn 3.875% 7.5-year senior secured and one a $2.5bn 5.25% 8-year senior unsecured notes. Once again investors were undeterred by rising Treasury yields and volatile equites. Investors really liked what they saw, allowing the company to build a large orderbook of at least $23bn. We are now waiting on the final details of the issues. The senior secured bond is rated B1/B+/BB- and the rating of the unsecured bond is a lowly Caa1/B-/B-.
Coinbase collapse
Timing is everything they say and Coinbase, like JDE Peet mentioned before, was easily able to raise money before they hit a problem. Coinbase Global Inc. is an American company that operates a cryptocurrency exchange platform. Founded 9 years ago, it employs over 1,200 people and came to the market on Nasdaq in April this year. Despite rising over 30% in the first 24 hours after launch, the shares are now trading at a 9% loss on the original launch price. A couple of weeks ago Coinbase successfully raised $2bn, from the original idea of raising $1.5bn, with a two part bond deal. The 3.375% 7- year and the 3.625% 10-year senior unsecured bonds are rated Ba1/BB+, both stable. With a huge orderbook of $9bn, the company was able to not only raise more cash than first thought but was able to lower the yields paid on both tranches from first ideas. However, like its shares the bullishness of investors initial thoughts has evaporated. After launch, its bonds sold off in the secondary market. In fact, both bonds were the worst performing high yield bonds of that week. Coming at a launch price of 100.00, both are now bid at 95.50.
Last week Coinbase bowed to pressure from U.S. regulators and postponed plans to launch a product that would pay users interest for lending out their tokens. The decision to shelve its Lend product was quietly announced in a company blog post last Friday. This came after the Securities and Exchange Commission threatened to sue the firm if it moved ahead with its plan. It also represents a dramatic reversal for Coinbase, whose top executives made its skirmish with the SEC public in defiant posts on social media on 7th Sept. In a further blow, China’s central bank said all cryptocurrency related transactions are illegal and must be banned.
Recent trades
AT&T Inc’s. shares have underperformed over the last year, however its dividend payments have continued at an unchanged level. The company is one of the largest wireless operators in America. AT&T has a strong market position and is reasonably diversified across telecom and entertainment assets. The company is focused on reducing debt leverage to a 2.5x target by the end of 2023. The company continues to narrow its focus on telecom with debt reduction high in its priority list. The bond we purchased came to the market in July last year as part of a successful $11bn money raising exercise to buy back outstanding debt that was issued to pay for the acquisitions of Time Warner Inc. and DirecTV. The $2.5bn 2.25% senior unsecured 2032 tranche was purchase at a price of just under par. It is rated Baa2/BBB/BBB+ all stable.
In early September, we decided to further decrease our portfolio exposure to Chinese company debt. We have suggested in past Bond Commentaries that we have become increasingly wary of highly geared Chinese businesses. One of the few Chinese company bonds we held was for Country Garden Holdings, the large property development company based in Guangdong.
As an active bond fund manager, we decided to sell the Country Garden 3.875% 2030 1st lien note we had on some portfolios. We believe the contagion risk with the fallout from China Evergrande and casino operator Sands China, with the government gaming clampdown, and others is too great. We were able to sell the bond at an average price of 99.50. Today the best bid on that bond is just 92.50.
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