Wolf Richter, www.wolfstreet.com
Most of the defaults, debt restructurings, and bankruptcies so far this year and last year were triggered when over-indebted cash-flow negative companies could not make interest payments on their debts.
During the crazy days of the peak of the credit bubble two years ago, they would have been able to borrow even more money at 8% or 9% and go on as if nothing happened. But those days are gone. Now the riskiest companies face interest costs of 20% or higher – if they’re able to get new money at all. Hence, the wave of debt restructurings and bankruptcies.
But that’s small fry. Now comes the wave of companies whose debts mature. They will have to borrow new money not only to fund their interest payments, cash-flow-negative operations, and capital expenditures, but also to pay off maturing debt.
That “refinancing cliff” is going to be the biggest, steepest ever, after the greatest credit bubble in US history when companies took on record amounts of debt, and it comes at the worst possible time, warned Moody’s in its annual report.
In its report a year ago, Moody’s had already warned that the refinancing cliff for junk-rated US companies over the next five years – at the time, from 2015 through 2019 – would hit $791 billion. Of that, $349 billion would mature in 2019, the largest amount ever to mature in a single year.
But Moody’s pointed out that “near term risk remains low as only $18 billion, or 2% of total speculative-grade issuance comes due in 2015.” And that’s how it played out last year.
Since then, the refinancing cliff has gotten a lot bigger, according to Moody’s new annual report. The amount in junk-rated debt to be refinanced over the next five years, from 2016 through 2020, has surged nearly 20% to a record of $947 billion.
This is an increasingly steep cliff, with the largest portions due in the later years of the period, including $400 billion to mature in 2020, the highest amount of rated debt ever to mature in one year.
And near term? Moody’s Senior Analyst Tiina Siilaberg warned that there would be “a significant wave of new issuance in late 2016 and 2017.” At the worst possible time – because “a range of macroeconomic factors will make it more difficult for lower-rated companies to tap the debt capital markets in order to refinance their debt obligations.”
One of those macroeconomic factors is the spread between yields of these lower-rated junk bonds and Treasuries, which has totally blown out. For debt rated CCC/Caa1 or lower, the average spread has shot to over 20%, where it had been on October 6, 2008, right after the post-Lehman panic. And yields for these bonds have soared to over 21% on average.
Among the other macroeconomic factors, Moody’s lists the slowdown in China and volatility in oil prices. And there’s another factor that will “make it more difficult for lower-rated companies to refinance”: worried regulators have been cracking down on banks’ exposure to leveraged loans, which are so risky that even the Fed has been fingering them publicly.
Banks sell these leveraged loans to loan mutual funds or repackage them into collateralized loan obligations (CLOs) which they then sell in tranches to institutional investors. When leveraged loans mature, companies have to come up with the money, but Moody’s warns that “rising defaults and the impact of the Dodd-Frank Act’s risk retention rule will make it more difficult for existing CLOs to supply corporate financing.”
This leaves Moody’s refinancing index, which measures if there’s sufficient liquidity in the credit markets to deal with the refinancing cliff, at “2009 levels,” which indicates “that the refinancing conditions are weaker than normal,” said Moody’s in its laconic manner.
And the refinancing cliff is getting bigger: In the current downgrade tango, companies at the lower levels of investment grade are getting downgraded one or two notches and end up with a junk credit rating, thus increasing the total amount of junk-rated debt that needs to be refinanced over the next five years beyond the $947 billion.
The telecommunications, technology, and media sectors are weighed down by the highest debt burden. But as energy companies and much of the remaining commodities sector have gotten run over by the commodities rout, their credit profiles have sharply deteriorated. And a number of these companies at the lower levels of investment-grade will likely be downgraded into junk.
For example, energy companies that Moody’s still rates Baa3, so one notch above junk, have $34 billion in debt maturing over the next five years. “But there is a high risk that investment-grade issuers in these sectors will be lowered to speculative-grade,” Moody’s said.