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"This $550 Billion Mania Ends Badly," Energy Companies Are "Shut Out Of The Credit Market"
"Anything that becomes a mania -- it ends badly," warns one bond manager, reflecting on the $550 billion of new bonds and loans issued by energy producers since 2010, "and this is a mania." As Bloomberg quite eloquently notes, the danger of stimulus-induced bubbles is starting to play out in the market for energy-company debt - as HY energy spreads near 1000bps - all thanks to the mal-investment boom sparked by artificially low rates manufactured by The Fed. "It's been super cheap," notes one credit analyst. That is over!! As oil & gas companies are “virtually shut out of the market" and will have to "rely on a combination of asset sales" and their credit lines. Welcome to the boom-induced bust...
As Bloomberg reports, with oil prices plunging, investors are questioning the ability of some issuers to meet their debt obligations. Research firm CreditSights Inc. predicts the default rate for energy junk bonds will double to eight percent next year.
“Anything that becomes a mania -- it ends badly,” said Tim Gramatovich, who helps manage more than $800 million as chief investment officer of Santa Barbara, California-based Peritus Asset Management. “And this is a mania.”
The Fed’s decision to keep benchmark interest rates at record lows for six years has encouraged investors to funnel cash into speculative-grade securities to generate returns, raising concern that risks were being overlooked. A report from Moody’s Investors Service this week found that investor protections in corporate debt are at an all-time low, while average yields on junk bonds were recently lower than what investment-grade companies were paying before the credit crisis.
Borrowing costs for energy companies have skyrocketed in the past six months...
Energy companies are no longer able to access credit...
“It’s been super cheap” for energy companies to obtain financing over the past five years, said Brian Gibbons, a senior analyst for oil and gas at CreditSights in New York. Now, companies with ratings of B or below are “virtually shut out of the market” and will have to “rely on a combination of asset sales” and their credit lines, he said.
The Fed’s three rounds of bond buying were a gift to small companies in the capital-intensive energy industry that needed cheap borrowing costs to thrive, according to Chris Lafakis, a senior economist at Moody’s Analytics in West Chester, Pennsylvania.
Quantitative easing “has been one of the keys to the fast, breakneck pace of the growth in U.S. oil production which requires abundant capital,” Lafakis said.
One of those to take advantage was Energy XXI, an oil and gas explorer, which has raised more than $2 billion in the bond market in the past four years.
The Houston-based company’s $750 million of 9.25 percent notes, issued in December 2010, have tumbled to 64 cents on the dollar from 106.3 cents in September, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. They yield 27.7 percent.
Energy XXI got its lenders in August to waive a potential violation of its credit agreement because its debt had risen relative to its earnings, according to a regulatory filing. In September, lenders agreed to increase the amount of leverage allowed.
And the blowback is coming...
“There are distortions in multiple markets,” said Lawrence Goodman, president of the Center for Financial Stability, a monetary research group in New York. “It is like a Whac-A-Mole game: You don’t know where it is going to pop up next.”
...
“Oil companies that have high funding costs in the Eagle Ford and the Bakken shale plays are the ones that are most exposed right now due to lower crude prices,” Gary C. Evans, chief executive officer of Magnum Hunter Resources (MHR) Corp., said in a phone interview.
...
For other energy borrowers at risk, “the liquidity squeeze” will probably occur in March or April when banks re-calculate hoe much they may borrow under their credit lines based on the value of their oil reserves.
Deutsche Bank analysts predicted in a Dec. 8 report that about a third of companies rated B or CCC may be unable to meet their obligations should oil prices drop to $55 a barrel.
“If you keep oil prices low enough for long enough, there is a pretty good case that some of the weakest issuers in the high-yield space will run into cash-flow issues,” Oleg Melentyev, a New York-based credit strategist at Deutsche Bank, said in a telephone interview.
* * *
As we noted previously, here is Deutsche Bank's most granular research:
Here are the details:
So how big of an impact on fundamentals should we expect from the move in oil price so far and where is the true tipping point for the sector? Let’s start with some basic datapoint describing the energy sector – it is the largest single industry component of the USD DM HY index, however, given this market’s relatively good sector diversification, it only represents 16% of its market value (figure 2). Energy is noticeably tilted towards higher quality, with BB/B/CCC proportions at 53/35/12, compared to overall market at 47/37/17. We find further confirmation to this higher-quality tilt by looking at Figure 3 below, which shows its leverage being around 3.4x compared to 4.0x for overall market. Similarly, their interest coverage stands at noticeably higher levels, even having declined substantially in recent years (Figure 4).
Energy issuer leverage has increased faster than that of the rest of the market in recent years, but this trend has largely exhausted itself in recent quarters. As Figure 5 demonstrates, growth rates in total debt outstanding among US HY energy names have been only slightly higher relative to the rest of HY market. It is almost certain in our mind that with the current shakeout in this space further incremental leverage will be a lot harder to come by going forward.
Perhaps the most unsustainable trend that existed in energy going into this episode shown in Figure 6, which plots the sector’s overall capex expenditure, as a pct of EBITDAs. The graph averaged 150% level over the past four years, clearly the kind of development that could not sustain itself over a longer-term horizon. Our 45%-full sample of issuers reporting Q3 numbers has shown this figure coming down to 110%, a move in the right direction, and yet a level that suggests further capacity for decline. This chart also shows, perhaps better than any other we have seen, the extent to which current economic recovery in the US has in fact been driven by the energy development story alone.
The next question we would like to address here is to what extent the move in oil so far could translate into actual credit losses across the energy sector. To help us approach this question we are borrowing from the material we are going to discuss in-depth in next week’s report on our views on timing/extent of the upcoming default cycle. For the purposes of the current exercise we will limit ourselves to saying that we have identified total debt/enterprise value (D/EV) as an important factor helping us narrow down the list of potential defaulters. Specifically, our historical analysis shows that names that go into restructuring, on average, have their D/EV ratio at 65% two years prior to default, and, expectedly, this ratio rises all the way to 100% at the time of restructuring. From experiences in 2008-09 credit cycle we have also determined that there was a 1:3 relationship between the number of defaulting issuers and the number of issuers trading at 65%+ D/EV prior to the cycle. Again, we are going to present detailed evidence behind these assumptions in the next week’s report.
For the time being, we will limit ourselves to applying these metrics to current valuations in the US HY energy sector, and specifically, its single-B/CCC segment. At the moment, average D/EV metric here is 55%, up from 43% in late June, before the 26% move lower in oil. About 28 pct of energy B/CCC names are trading at 65%+ D/EV, implying an 8.5% default rate among them, assuming historical 1/3rd default probability holds. This would translate into a 4.3% default rate for the overall US HY energy sector (including BBs), and 0.7% across the US HY bond market.
Looking at the bond side of valuation picture, we find that energy Bs/CCCs are trading at a 270bp premium over non-Energy Bs/CCCs today (Figure 7). This premium implies incremental default rate of 4.5% (= spread * (1 – recovery) = 270 * (1-0.4) = 4.5%). Actual default rate among US HY Bs/CCCs is currently running at 3%, a level that we expect to increase to 5% next year (not to be confused with overall US HY default rate, currently running at 1.7% and expected to increase to 3.0% next year).
The bottom line is hardly as pretty as all those preaching that the lower the oil the better for the economy:
In the next step we are attempting to perform a stress-test on oil, defined this way: what would it take for overall US energy Bs/CCCs segment to start trading at 65%+ total debt/enterprise value? Our logic in modeling this scenario goes along the following lines: if a 25% drop in WTI since June 30th was sufficient to push their average D/EV from 43 to 55, then it would take a further 0.8x similar move in oil to get the whole sector to average 65 = (65-55)/(55-43) = 0.8x, which translates into another 20% decline in WTI from its recent low of $77 to roughly $60/bbl. If this scenario were to materialize, based on historical default incidence, we would expect to see 1/3rd of US energy Bs/CCCs to restructure, which would imply a 15% default rate for overall US HY energy, and a 2.5% contribution to the broad US HY default rate.
How should one trade an ongoing collapse in oil prices? Simple: sell B/CCC-rated energy bonds and wait to pick up 10%.
If this scenario were to materialize, the US energy Bs/CCCs would have to trade at spreads north of 1,800bp, or about a 1,000bps away from its current levels. Such a spread widening translates into a 40pt drop in average dollar price from its current level of 92pts for energy Bs/CCCs.
It gets worse, because energy CapEx is about to tumble, which means far less exploration (and US fixed investment thus GDP), far less supply, and ultimately a higher oil price.
As the market adjusts to realities of sharply lower oil prices, it is important for to remember that the US HY energy sector is a higher quality part of the market. Higher credit quality will help many of them absorb an oil price shock without jeopardizing production plans or ability to service debt. Their capex rates, expressed as a pct of EBITDAs, have already declined from an average of 150% over the past four years to roughly 110% today. We still consider this level to be high and thus subject to further pressures. This in turn should work towards slower rates of supply growth, and thus ultimately towards supporting a new floor for oil prices. A 25% in oil price so far has pushed debt/enterprise valuations among US energy B/CCC names to a point suggesting 8.5% future default probability, while their bonds are pricing in a 9.5% default probability.
And the scariest conclusion of all:
Finally, our stress-test shows that a further 20% drop in WTI to $60/bbl is likely to push the whole sector into distress, a scenario where average B/CCC energy name will start trading at 65% D/EV, implying a 30% default rate for the whole segment. A shock of that magnitude could be sufficient to trigger a broader HY market default cycle, if materialized.
And now back to the old "plunging oil prices are good for the economy" spin cycle.
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At least gross is happy as a clam at Janus. He used to be a 500bil$ man.
http://hedgeaccordingly.com/2014/12/bill-gross-its-more-flexible-running...
Andrea Rossi's E-Cat may finally be a reality.
http://pesn.com/2014/10/10/9602543_Apocalypse-Revealed--The-Four-Horseme...
I have linked this bit here on ZH multiple times and I think it can bear repeating.
http://www.energytrendsinsider.com/2014/07/10/world-sets-new-oil-product...
QUOTE:
While the speculation about prices is just that, the role of the frack industry in proping up global production is not. That oil is coming off the market going forward.
So, we are setting up for a double whammy ... prices go down and take out all the marginal production ... and then if there is even a whiff of recovery, prices are going way back up as supply won't be able to track demand globally.
Save yourself the money investing, just to go to six flags.
Regards,
Cooter
Yep and it's not going to be sustained as much as big talking execs or idiot government agencies are suggesting.
http://peakoilbarrel.com/bakken-north-dakota-production-report/
Existing shale production won't come off the market. New wells will be postponed until costs of tools and fracking services goes down. Nothing like excess capacity to influence service companies to cut prices.
It takes itself off the market given the well declines.
And those fukin oil guys were gonna invest in my VR startup! !^%*(&!@^#%(!@^%#)!@%^#!~
Never Ever Follow the Crowd....
"If we get to $60"?
Pretty sure we're at $57 now.
So........BOOM!
Right?
SNIIFFF!!! Ahhh, Man I do love the sweet smell of carnage in the morning...
sarc off//
Small shale drillers will go bankrupt. Big oil will survive as it always does, and take over the interests of small shale, and then prices will go back up. Pretty simple equation. Rockefeller figured it out 100 years ago, and his heirs still co-run this place.
Although Wall Street has taken over the top seat, big oil still pulls plenty of strings in DC. I am expecting to see $3.50 a gallon next Fourth of July.
Certainly by July, 2016. Maybe as soon as you predict. They'll need time to make sure the small players go belly up. I have no clue how long it will take, but it will happen. And when it does, it will probably be $5+
This is more than a domestic political issue. Quite a few countries run on petrodollars and so I think we'll see some sort of war or 'terrorism.' Saudi Arabia has already hinted at it with IS allegedly there plotting to blow up oil wells. There's a whole laundry list of reasons that cold lead to a oil rally on the international front.
Saudi Arabia is part of the oil cartel interested in shutting down shale.
So... no more "Drill, baby, drill!" ?
~"The Fed’s decision to keep benchmark interest rates at record lows for six years has encouraged investors to funnel cash into speculative-grade securities to generate returns, raising concern that risks were being overlooked."~
Bullshit. If you are investing in "speculative-grade securities" you aren't an "investor", you're nothing more than some piker speculator and deserve whatever evil befalls you. The fact that the Fed has, as nothing more than the cartel of the banks, worked in collusion with their pawns in the federal government to manipulated interest rates to be able to bail out the same said banks at the expense of the taxpayer is academic and as time will prove, short-lived. Their manipulation is one that will eventually come to an end. When it does, then everyone will get slaughtered, both figuratively and literately. Ugly days ahead. There simply won't be enough lamp posts from which to hang them.
I think It could be all over before March / April as suggested in this report, black swan shadows flitting around everywhere.
Pffft...... Watch the Monkeys raise taxes on fuels as fast as they can to offset the slide in price.
Hope, Hope and Change!!!
Bad timing is all..
If 0 was running for prez now, boy would he be fighting for the working man, with his union hat on and waving a paper flag, and opening those credit lines up..
As mal of an investment this shale shit is, ethanol is even worse. there never seems to be a lack of subsidy for that..
Oh well it did help out a lot of college graduates while it lasted.
Hehe, default on junk bonds won't even be the worst of it: we'll start hearing about "shale shell games", companies that never even frackin dug for oil and never even drilled, just borrowed ultra easy money and grifted from "investors". lol they fall for it every time!
You and LetThemEatRand on fire today!
So true
Tulsa banks!
lol
MBS
Methane Backed Securities
So, apparently for the oil market this is what Six months of "Price Discovery" and supply and demand looks like? ..... Say hello to my little friend.
But Hey, its good for the Retailers! I am going over to the Mall to buy an extra pair of boxers will all the money I save at the pumps.. You can't make this shit up!
" the danger of stimulus-induced bubbles is starting to play out in the market for energy-company debt -"
Indeed it is, nearly 1/2 a trillion dollars poured into high cost oil and gas extraction since 2010. What could go wrong? A good deal of it Junk bonds.
The bubble is caused by excess liquidity. The Fed is responsible for too much liquidity looking for places to go. It funded a bubble in oil and gas drilling. The fracking miracle was built on Junk bonds, investors desperate for yield, fueling high cost oil.
I think oil will find a bottom around $40 but won't stay there too long and creep back to $60 were it will stay for at least 6-8 months. After that oil can spring back up to $80-$90 is possible over a year.
Pure my somewhat informed guesstimation. We'll see ...
I fart on that comment! You have no information. Just a blind guess like everyone else.
his shoe shine boy told him
Goes to show how quickly things are shutting down and how full of shit the EIA is
http://peakoilbarrel.com/bakken-north-dakota-production-report
Kill the petrodollar scam.
"You smell that? ... that smells like ... <snort> ... ... blood in the water."
Sharks are not circling the bloody waters, they are already feasting. It has taken 5 years of celibacy for this orgasm.
Sorry guys, but I am too busy today to research how to trade this. Who / what do we short on this one? I am/have been selling off my longs, and adding to TVIX and inverse ETFs here.
"I got a bad feeling about this." https://www.youtube.com/watch?v=HCCyvAwbbso
..... Looking around, hard to imagine any stocks or sectors that are not making a beeline for the October Ebola bottom. The one that sticks out to me is retail, they rallied them again on Friday ( ??? ) Quite a feat considering..... Wall street is apparently "Real Sure" the bust in energy is going to be a boom for Mall Traffic.
Step right up and buy those Retailer boys and girls, they are the beneficiaries.... wink wink, the consumer has never been more confident.
couldn't happen to a nicer bunch of folks.
"our historical analysis shows that names that go into restructuring, on average, have their D/EV ratio at 65% two years prior to default, and, expectedly, this ratio rises all the way to 100% at the time of restructuring. From experiences in 2008-09 credit cycle we have also determined that there was a 1:3 relationship between the number of defaulting issuers and the number of issuers trading at 65%+ D/EV prior to the cycle."
Typical DB (or any big bank) garbage. So the default rate was 33% of those companies hitting the 65% D/EV mark in 08-09 meltdown. Of course that was when the central banks were blasting every howitzer they had, and there was some faint remaining dry powder left to do it with.
Today is far different with most of the remaining dry powder vaporized and black swans in every corner. As expected DB makes no allowance for that, or the fact that debt quality is further degraded by the upsurge in Covenant-lite, or the new normal "we'll-just-change-the-rules" derivatives hedging scam many of these shale oil plays are relying on. That 33% might really be 60%+ and accelerate much faster than 08-09. Easily all the contagion needed to set the broader dominoes in motion long before supply-demand-pricing rebalances. Heck, it could be some other teetering domino (Grexit, etc) that goes first and feeds right back to HY energy. I sure wouldn't be a buyer of quality names just yet
Yellen no longer has to fret about whether or not to raise rates. The market is doing it on her behalf.
The interest rate effect of the ongoing oil debacle will be interesting to watch. Aren't rate rises limited to the energy sector right now while the 10s and 30s (rates) are declining?
Any see the small players getting picked off cheaply by the big guys and the banksters?
"Junk-bond debt in energy has reached $210 billion, which is about 16 percent of the $1.3 trillion junk-bond market. " http://www.zerohedge.com/news/2014-12-04/could-falling-oil-prices-spark-financial-crisis
Where did he get the information about the 550 bn ? O_o Subprime was 600 bn excluding CDS & CDO
Get rich quick schemes pop up and people take leave of their senses - round and round we go, where she stops nobody knows ---rinse, wash, repeat and on and on.....
Monopolies seeking greater monopoly. The "bigs" manipulating markets to kill off the smaller ones. Not much different that the super rich complaining that taxes are too low. Its always about killing off your smaller competition (and sometimes larger competition if they fall into the wrong influential circles). Atlas shrugs every day and ultimately the cabal of government/wealth grows in strength.
"Anything that becomes a mania -- it ends badly,"
as if it hasen't been a mania all along, dig deep, steal fast, get out alive, it's the last part they're going to have trouble with.
Here is an excellent article by Thierry Meyssan over at Voltaire on oil/sanctions/shooting oneself in the foot.
http://thenewsdoctors.com/how-putin-upset-natos-strategy-thierry-meyssan...
I particularly like the way he compares it to Russia falling back during WW2 only to counter-attack.
Good stuff lake.
Worth thinking about.
I still have a hard time thinking that Washington believes they can win a game of 'chicken' with Putin.
I see that as dangerously delusional that a shooting war won't occur. Starting a war where the outcome is uncertain is a very lousy policy to be pursuing.
Then again, I always hated to get hit in the face and get a broken nose, so my objectivity might be limited.
Of bigger interest to me is who exactly is the horse and who is the cart in the decision to not cut production.
Is OPEC getting a little push from Unk even though it slaughters domestic supply to cripple Putin?
Saudi's simply taking a temporary hit to capture market share in a down market and fuck all y'all?
What's China, OPEC biggest buyer, doing? Watching or working behind the scenes?
Nowadays, the last scenario I would expect was a market just doing what markets are supposed to do and correct for oversupply and weak demand.
It' just doesn't seem likely in the new order where every market is manipulated to the penny for the benefit of those that make the market.
Geo-politics is fun. Everyone has a theory. Where are the facts?
Problem and why the World is in this current predicament?...
Israel with it's little bitch Saudi Arabia
Solution?...
Nuke 'em both before they get everyone else killed!
P-R-O-B-L-E-M Solved!!!!
Problem? what problem. I love $2.00 a gallon gas.