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Corporate borrowers across Europe and the US looking to sell bonds are facing much higher costs of funding in 2023, and current market pricing of future central bank rates suggests that the problem may extend well beyond this year. This week’s Chart Room shows how the issuers of some of the biggest investment grade (IG) and high yield (HY) fixed-rate bonds this year have had to pay far more for their latest transactions when compared with their previous weighted costs of funding. For example, Intel Corp sold $11 billion of IG bonds in February to fund capital expenditures (capex): the weighted average yield on this deal was around 5.3 per cent, compared with a weighted average coupon of around 4 per cent across the whole of the chip maker’s $50 billion debt stack. (Note that the weighted average coupon data includes the firms’ latest deals, suggesting their debt costs before 2023 were even lower than what’s reflected in the latest data).
The increased cost of funding - a response to rising interest rates - has naturally impacted issuance volumes, with most borrowers opting this year to wait and see whether funding costs will fall before venturing out into the bond markets. Several of the largest deals so far have been event-driven financings, such as the $24 billion bond package backing Amgen’s acquisition of Ireland’s Horizon Therapeutics.
A drag on activity
But this year’s pricing dynamics aren’t just putting issuers off opportunistic deals. They are also challenging the current corporate financing model. For example, even though private equity sponsors have dry powder to put to work, they are shying away from new buyouts as the costs of securing financing packages to attain target internal rates of return have soared. For example, consider another of this year’s biggest deals, the $3.838 billion senior secured second-lien notes financing Vista Equity and Evergreen Coast Capital’s buyout of software firm Citrix. The 9 per cent notes due 2029 were wrapped in the primary market at a re-offer price of 79 cents on the dollar to yield 14.047 per cent – a deep discount to where the deal had been underwritten by banks just a few months before[i].
For investors, the big picture takeaway is that a corporate debt maturity wall is looming over both the IG and HY bond markets in the next couple of years, meaning companies may have to swallow far higher funding costs that could skew their outlooks.
It is difficult now to see how this dynamic changes, and corporate borrowers could find themselves stuck between a rock and a hard place. On the one hand, costs across both IG and HY bond markets have risen in line with central banks’ rate hikes. But policymakers will only begin to reassess the rates outlook once their economy shows signs of slowing; and of course, a slowing economy will impact companies’ credit profiles most starkly, in turn driving up their financing costs as credit spreads widen.
The bond deals completed by corporate borrowers so far this year have been markedly more expensive than the other transactions in their debt stack. Someday they may just stand out as anomalies in companies’ borrowing portfolios - reminding treasurers of that weird time back in early 2023 when financing costs were pushed to painfully high levels. But it could be that these weird times are a sign of what is to come, and an indication that higher funding costs may become the new normal.
[i] Primary: Citrix Returns to HY Market to Refi 2L Bridge Loan, Reorg, April 4,2023