Roger J Kerr says corporate bond issuers are cashing-in on strong investor demand

Roger J Kerr says corporate bond issuers are cashing-in on strong investor demand

By Roger J Kerr

If the larger corporate borrowers in New Zealand are currently not contemplating a debt issue to the local investment market, they should be!

Market conditions are optimal with wholesale and retail investor demand strong and thus credit spreads at their lowest levels since before the GFC in 2009.

There has also been a shortage of new supply of fixed interest securities coming to the market over the last six months.

The latest bout of volatility in equity markets is a sign that their bull-run over recent years is coming to an end as share values and PE ratios exceed the macro-economic environment the businesses operate within. Therefore, it will be no great surprise that many investors are re-allocating investment asset weightings away from equities in favour of bonds and fixed interest securities.

Interest yields on NZ Government Bonds not far from 3.00% will not be that attractive for many fixed interest investors, thus the demand for enhanced-yielding bank and corporate bonds.

Prior to this month, the only non-bank corporate bonds issued in the market were Fonterra, Auckland Council and The Warehouse Group. Confirming the strength of retail investor demand was the early June roll-over of The Warehouse Group’s five year, non-rated corporate bond. Issued at +170 basis points over the 5-year swap interest rates (5.30% issue yield against 3.60% swap rates at the time), secondary market trading now prices the bond at 4.45%, which is swap plus 130 basis points.

Tapping the strong investor demand when it is present in the market is always advisable for a corporate issuer, even if the timing does not coincide with a specific debt maturity that requires refinancing or a new debt raising requirement. Debt facilities from banks can easily be shuffled around to accommodate a corporate bond issue even if such an issue was not planned for the time. When the debt market window is open for business at attractive terms, prudent debt and treasury management should be to take advantage of such opportunities.

BBB credit rated Contact Energy set their issuance interest rate last Friday for their 6-year, $150 million corporate bond. The 4.40% yield is just 115 basis points over the 6-year swaps rate.

SKY CITY Entertainment Group have recognised the current conducive market conditions and have announced a $125 million, 7 year bond issue. The company is replacing bank debt following the repayment of their Capital Notes in May. The pricing will be higher than the Contact Energy issue as SKY CITY are one notch lower with their BBB- Standard & Poors credit rating. However, yet again strong investor demand can be expected to deliver a successful issue for the borrower.

The successive cuts to the OCR by the RBNZ following the collapse of dairy prices in recent months has clearly convinced many wholesale and retail investors that short-term interest rates are going to remain very low for some time yet, hence their appetite for higher yielding corporate bonds.


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Roger J Kerr is a partner at PwC. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com

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Interest yields on NZ Government Bonds not far from 3.00% will not be that attractive for many fixed interest investors, thus the demand for enhanced-yielding bank and corporate bonds.

Oops - a certain case of caveat emptor.

The explicit QE strategy of the US Federal Reserve to push investor's away from sovereign liabilities towards higher yielding corporate IOUs comes with certain unrewarded risk.

Yields on U.S. junk bonds recently hit their highest since 2012 before edging lower to stand at 7.33%, according to Barclays indexes. They have risen by 1.4 percentage point since the start of June, and by 2.5 percentage points from their 2014 low.

The weakness of the high-yield market may have exacerbated investor jitters about growth. Credit markets can be the canary in the coal mine, since investors in bonds, where potential gains are limited compared with stocks, tend to have a greater focus on downside risks. Read more

You have ask yourself, has the Fed taken a hit on it's US Treasury SOMA positions?

Roger didn't you say just last week that the NZD would go higher?