by Wolf Richter
Telecom operator Frontier Communications came out of the “shadow calendar” with a $6.6 billion three-part bond offering to fund its acquisition of Verizon’s wireline operations in Florida, Texas, and California. The roadshow was supposed to start on September 10, and pricing was supposed to take place on September 15 or 16, S&P Capital IQ’s LCD reported on Wednesday.
But yesterday, Frontier accelerated pricing of the bonds and moved it forward to today (September 11). Why the sudden panicky hurry?
On September 16-17 is the FOMC meeting. The fateful one. The Fed might decide to kick off the cycle of monetary tightening by raising interest rates from nearly nothing to practically nothing. It doesn’t sound like a big deal, but the cacophony about it has reached a deafening level. With this move, the Fed would kill the Wall Street illusion of ZIRP Infinity, just like it killed the illusion of QE Infinity. And for our over-indebted corporate heroes, such as Frontier Communications, it is a big deal.
Frontier’s bonds are expected to be rated at BB-/Ba3, so junk bonds. It’s not exactly cheap money. But according to LCD, there’s demand for the three-part deal, and this morning guidance on pricing has tightened:
Talk on the $1 billion of five-year notes is now 8.75-8.875%, from original guidance in the 9.25% area. The $2 billion of seven-year notes is guided at 10.25-10.5%, from 10.875% area. The $3.6 billion of 10-year notes is now expected to yield 10.75-11%, from original talk of 11.25-11.5%, according to sources.
These seemingly juicy yields – in a still zero-interest-rate environment – are what it takes these days to bamboozle investors into buying new debt of a company already teetering under its load of existing debt.
And the risks are high, as demonstrated in ample detail, not by the junk rating, but by the bath investors have already taken on Frontier’s $1.5 billion bond issue a year ago that was used to fund the purchase of AT&T’s wireline assets in Connecticut. This is how the three parts traded on Thursday:
- The 6.25% notes due 2021, at 90.5 cents on the dollar.
- The 7.125% notes due 2023, at 88.25 cents on the dollar.
- The 6.875% notes due 2025, at 82.25 cents on the dollar.
Taking a double-digit loss in a year on a corporate bond is the hallmark of a bond bear market. But for the company to be able to sell even more bonds to fund yet another acquisition, as if these losses hadn’t occurred, is a sign that institutional investors who buy these bonds with other people’s money don’t yet believe in the bond bear market.
For them, things are going to get rosier from here. They apparently think that the Fed will never kick off the tightening cycle, or at least not in any measurable way, which would over time sink these new bonds.
But here’s the conundrum: Corporate bond issuers are fretting that the Fed will raise rates, that borrowing will become more expensive, that leverage will suddenly have a price, possibly a steep price, and that it will all start (ever so gradually, but still too suddenly) next week. And they’re selling new bonds to raise more money like there’s no tomorrow.
Yields on riskier bonds have jumped, and losses are spreading even in the investment-grade scene, but investors are happy to ignore the warning signs of further damage.
There’s the threat of higher rates from the Fed, just when corporate borrowing is at a record. Default rates are climbing. Struggling companies are putting the restructuring gun to creditors’ heads so that they hold still to undergo high-and-tight haircuts. Bankruptcy filings are hailing down on a daily basis. And this, while the Fed is still in full-tilt easing mode.
What will happen when the Fed finally begins to tighten? Corporations know. They’ve been through this before. Credit will normalize. Credit gets tighter and more expensive, and for some companies elusive. And they’re selling new bonds while they still can.
The prior three weeks have been tough for bond issuers and very little was sold, given the financial turmoil in August and the seasonal slowdown just before Labor Day. The week ending September 4, no investment-grade corporate bonds were issued at all. And the week before, less than $1 billion in bonds were issued. But now the floodgates have opened.
On Wednesday, $28 billion in investment-grade bonds were issued in the US, the Wall Street Journal reported, the second-busiest day this year, and the fourth-busiest day ever. A record 19 issuers piled in, including home-improvement retailer Lowe’s and hotel operator Marriott International. Drugmaker Gilead topped the list with a hefty $10 billion offering.
This doesn’t include Apple which sold €2 billion of bonds in Euroland because money is even cheaper there, in order to fund share-buybacks and dividends, bringing its total bond sales since 2013 to $55 billion.
Investment-grade bond sales have been white-hot this year, while junk-bond sales have been struggling since June. Despite the weakness in junk-bonds, total corporate bond sales in the US have reached $1.2 trillion so far this year, according to Dealogic. At this rate, it’ll be another record year, the fourth in a row, for bond issuers.
But investors who bought bonds over the past two record years are now beginning to lick their wounds. The problems always start at the riskiest fringes of junk-bond land and gnaw their way toward what is thought to be the rock-solid core. Hence that whiff of panic among issuers, that frenzy to sell bonds before the floodgates close.
Our leveraged-to-the-hilt corporate heroes know the glory days of cheap money are numbered. They see what comes next: tighter credit. And that may be too much to bear for many of them. But they’re still smiling because investors haven’t got the message yet.
And this, as the global economy is headed into the kind of trouble where monetary policies will be “ineffective,” according to Investment Bank Natixis. Read… Global Economy Nearing a “Structural Recession”