A trading floor of distressed bankers, head in hands, eyes bulging and beads of sweat adorning their red faces as they eye the charts: rocketing spreads, falling stocks and no end in sight to debt deadlock.
The scene from 18 months ago might as well be a fly-on-the-wall’s perspective of a trading floor today. But this time around, will companies – as in 2008 – rush to accumulate cash to build a buffer just to find that interest rates would have turned more favourable had they waited?
It’s the treasurers’ call and up to them to determine whether we have learnt from our mistakes or whether history does just repeat itself after all. After Lehman Brothers filed for Chapter 11 bankruptcy protection following the majority exodus of its client base in 2008, issuers streamed to the investment grade corporate market, some paying as much as 9% in yields. Later credit spreads and underlying yields rallied meaning that funding would have been a lot cheaper had they waited.
“I think corporates are better prepared now. They are stronger, leaner and meaner from a financial standpoint and can afford to be more strategic about it,” says Brendon Moran, co-head of corporate origination at Societe Generale. He brushes off fears that an entry into the market now may mean committing the same mistake as post-Lehman.
“Corporates are taking advantages of windows of opportunity now because they can’t be sure that it’s going to get better before it gets even worse,” Jeff Tannenbaum, head of European syndicate at Bank of America Merrill Lynch said. “Waiting for an incremental day when the conditions are even better can be tricky and risky,” he added.
Both Moran and Tannenbaum agree that bearing the long-term outlook in mind, and the persistent uncertainty, the time to go into the market might be now after all.
Different this time
In 2009 companies such as German retailer Metro AG and media company Bertelsmann AG jumped at the opportunity to secure liquidity in an uncertain environment, said Anthony Bryson, BNP Paribas’ European head of corporate debt capital markets. “What posed the problem was that corporates were pursuing the same aims at the same time,” he said.
This time round the fundamentals have changed and corporates are facing a whole new set of conditions. The 10-year swap rate started 2011 at about 3.50% and having peaked at about 3.70% in early April. It has since steadily declined to current levels of about 2.50% when this report went to press. In 2009 the rate fluctuated between 3.25% and 3.70%.
Corporates have manoeuvred themselves into a more strategic position now, scaling back capex, holding back on M&A activity and, in some cases, reconsidering their dividend policy. They’ve done their homework, one could say, but that does not mean that it’s plain sailing from here.
“This year, the problem is that corporates have been able to become more complacent,” BNP Paribas’ Bryson said.“Equity ratios have improved, secondary spreads compressed and new bond offerings were oversubscribed at low new issue premiums.”
When activity dried up in summer, market players resorted to the excuse that the vacation months of July and August were always quiet. “While there was zero activity in Europe however, we saw close to US$40bn in the US market in terms of investment grade corporate offerings,” Bryson pointed out.
Moran also emphasised that August significantly changed the environment and led to the tactical concerns of treasurers around price and risk giving way to an increasing sense of being more pragmatic and more strategic about funding. Perhaps that was the warning sign the market needed to get itself back in the saddle.
Strategy change
In the current crisis, we are also challenged by the multiplicity of the situation. In 2009, a number of bankers, including Bryson, argue it was easy to pin the blame for the crisis on Lehman. The roots of today’s situation can be traced back to the US mortgage market, the European peripheries, or other public authorities. This uncertainty and feeling of a lack of control, he argues, is what could prevent issuers from going to the market now, meaning that they would regret it later.
As the market struggles to pick itself up and dust itself off, the windows of issuing opportunity are opening and closing as abruptly as almost never before. They need to play on their toes if they want to get a piece of the pie, and the person at the heart of the game is the corporate treasurer.
“The financial crisis led to changes in the decision-making process when it comes to funding strategy,” Tony Kendall, group treasurer at UK-based utility Centrica said.
“The role of the treasurer is now far more important than previously. Before the crisis funding and the role of the treasurer was taken for granted, it isn’t now,” he added.
SGs Moran speaks of treasurers regularly being called in to participate in executive board meetings.
The group treasurer of another European company, who spoke on condition of anonymity, said that treasurers were increasingly being challenged to take responsibility and make decisions that they had never had to in the past.
“The companies are putting a whole load of pressure on us. I sometimes feel like I’m working harder than some of the executives,” he said.
Centrica’s Kendall also said that he felt that managers and the board listened to him more now than before the credit crunch. The reason, BofA’s Tannenbaum argues, is that balance sheets are in a completely different shape now than they were after Lehman. “Issuance is a lot more targeted and specialised because corporates have more of a buffer and more cash,” he said.
Deutsche Bank’s head of corporate syndicate, Francois Bleines points out that European corporates are now looking at the general spread and not just the coupon before taking a financing decision.
“Issuance is being conducted in a more strategic and more selective manner,” he said.
The mass risk
With companies poised to jump at the first sign of bluer skies, and the pipeline reportedly full, the risk now is that the sentiment could be killed by the sheer mass of issuance.
“It would be an ideal situation if issuers could come to the market in an orderly manner, seizing windows of opportunities at a steady pace,” BNP Paribas’ Bryson said.
The challenge the market is now facing, he argues, is the potential risk of the market being flooded by too many issuers at once if volatility persists at such elevated levels.
Most bankers agree that the pipeline is full, which may only heighten the danger of a destructive overload, but as transactions trickle through, easing the apparent backlog, market players seem more glad of the fluctuating activity than fearsome that it could turn into an uncontrolled wave. The first week of September saw a flurry of activity on the investment grade corporate bond market. Spreads temporarily tightened, pacifying nervous issuers, and giving them the courage to test the waters.
Just days later, talk of Moody’s downgrading French banks and Juergen Stark’s surprise resignation as European Central Bank Executive Board member sent spreads to record wides.
The Main index, made up of 125 investment grade European companies, hit 207bp, the widest level since March 2009. Its mostly speculative-grade counterpart, the Crossover index, soared to 818bp, its widest since April 2009.
Recovery was just around the corner though, and it is precisely this up-and-down volatility that will protect the market from a flood, Barclays Capital’s Mark Lewellen said. “Corporate balance sheets are in general more healthy, and we are not seeing the pent up need to refinance which we saw following the Lehman crisis,” he said. “If corporates have funding requirements and are planning on going to the market, they should certainly issue while they can!”
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